Canadians believe interest rates will fall soon, and it’s now obvious in real estate. That’s the take from BMO Capital Markets, who sees this having unintended consequences. In a weekend research piece, they explain more investors are holding out for rate cuts. This will lead to maintaining lofty growth expectations and sticky inflation, making cuts counterproductive. Consequently, the bank warns they don’t see any room for interest rate cuts next year.
Canadian Investors & Households Expect Interest Rates To Fall
The Bank of Canada (BoC) seemed to backtrack on its message last week. Up until last week, the central bank spoke of higher and uncomfortable rates. Last week’s rate hike came with a different message—they’ll debate future actions. It is widely seen as a sign the market won’t be able to take higher rates, and would be reversing course.
Combine that with a weaker economy and falling rates, and it’s easy to assume rates are too high. BMO points to the TSX, which is down roughly 5% from last year as corporate outlooks erode. The point that stands out is the yield curve.
The yield curve has inverted, meaning short-term interest rates are higher than long-term. Canada’s 10-year bond yield is now 140 basis points (bps) lower than the overnight rate. According to BMO’s research, the gap has almost never exceeded 50 bps, and is now at a 30 year extreme. It’s a strong indicator of recession, with the market demonstrating they see big rate cuts.
What does that mean? “Essentially, the market is assuming that the Bank will be slashing rates by the second half of next year as—presumably—inflation melts away,” says Douglas Porter, chief economist at BMO.
Canadian Real Estate Markets Demonstrate The Expectation of Lower Rates
Canadian real estate markets are the most obvious example of rate-cut expectations. The bank estimates this week’s national numbers will show sales fell 40%, with a 4% drop for prices. Despite these weak indicators, new listings are showing signs of stabilizing. Rental prices are even booming, despite staring down the barrel of a recession.
“If anything, the market’s fundamentals may show stabilization amid a pullback in listings. Both potential sellers and heavily indebted owners are likely holding on, waiting for rates to ultimately recede,” says Porter.
BMO Forecasts Interest Rates Won’t Be Cut In 2023
The widespread adjustment of behavior ahead of rate cuts means they can’t be cut. “This is where we distinctly deviate from the consensus and the markets,” says Porter.
The bank is forecasting inflation will be significantly higher than consensus next year. Consensus has annual growth pegged at 3.8%, which is nearly double the target rate. However, Porter sees growth at 4.6% over the same period—leaving no room for an interest rate cut next year. They see rates at least at the neutral level right through 2023.
“In a word, that pullback in yields just means that the Bank will need to keep short-term rates higher for longer as a counterweight. You can fight the BoC, or the Fed, but you can’t win,” he warns.
Forward expectations of rate cuts have also weakened CAD by 10% or so, meaning higher commodity inputs than needed.
Tiff is the bluntest tool in the shed though, so I wouldn’t bet against him not doing his job and doing whatever he thinks will make the government happiest.
We need a rate cut or thousands of jobs will be lost almost within the first half of next year.
They were only real estate agents for like a week. I think we can do without them. m
Totally disagree with you because we have unusually strong job market and it must be cleaned with the proper interest rate.
Recessions come with job loss. Our GDP is tanking. Debt to income at an all-time high. How will you stimulate an economy without rate cuts.
1000s of job cuts is the point
That’s where the inflation gaming model they built that amplifies downward pressure by adjusting the basket to higher use comes in. Brilliant scam Statistics Canada and Census use.
We have outsourced manufacturing, oil & gas and mining dies almost a decade ago, service industry has been getting beaten down recently, real estate has been providing much needed boost within Canadian economy including foreign investments and with these rate hikes that is taking a toll. What does the economy have to offer next? What worked in the 1980s to handle inflation is definitely now not working now but we keep increasing interest rates.
Massive inflation is already present Interest rates should have never been below 5 per cent. Can’t print and borrow money forever without the money becoming worthless This is the real problem.