Canadian Real Estate to Remain Slow, Mortgage Rates Rising: BMO

Canada’s sluggish real estate market isn’t getting a break anytime soon. A new BMO report warns there’s no mortgage rate relief on the horizon, with some rates set to rise. Meanwhile, home prices remain sticky and out of reach, pricing out many end users. The bank sees little chance of real estate markets picking up in the near-term under these conditions.  

Canadian Variable Mortgage Rates To Stall As BoC Holds

All eyes are on the Bank of Canada (BoC) when it comes to mortgage rates, and its overnight rate. The decision to change the rate is based on market expectations of inflation, which in turn influence short-term borrowing costs. Arguably, the most notable product influenced is variable-rate mortgages. 

Rising inflation expectations are limiting the BoC’s ability to lower its overnight rate. It’s widely expected to hold rates at its July meeting, to be held next week. This should keep variable rates in the mid-4% range through September or October at least, according to BMO.  

The BoC overnight rate doesn’t impact fixed-rate mortgages, but there’s no relief in sight there either. They’re being driven by similar emerging trends over longer terms. 

Canadian Fixed-Rate Mortgages Set To Rise With GoC Yields

Source: BMO Capital Markets. 

Fixed-rate mortgages secure borrowing costs for medium to long terms, and are influenced by bond yields. More specifically, they’re directly influenced by the Government of Canada (GoC) bond yield of similar corresponding terms—i.e. 5-year fixed rates move with the 5-year GoC bond yield, etc.   

GoC bond yields have been surging in recent months, reversing progress made. “… a backup in bond yields has lifted 5-year GoC yields to near 52-week highs, up more than 60 bps from the spring lows. That should stall the downward drift in 5-year fixed rates, if not nudge them up somewhat,” explains BMO senior economist Robert Kavcic. 

Bond yields can rise for various reasons, with inflation expectations, currency strength, and investor demand for bonds being the primary driver in Canada. The last point is one that’s rarely discussed, but important—as the GoC’s financing needs rise, it applies upward pressure to drive the cost of borrowing higher. 

While BMO didn’t address the recent drivers of yields in this report, there are some obvious culprits. Primarily elevated inflation expectations, prompting the BoC to take a wait-and-see approach, as well as the expanded borrowing needs of policymakers and their recently set spending mandates. 

Canadian Real Estate To Remain Slow In The Near-Term, Warns BMO

Those hoping for the real estate market to pick up soon may be disappointed, according to BMO. “Canadian mortgage rates can’t break meaningfully below 4%, and that is keeping a tight lid on the housing market,” explains Kavcic. 

Despite slow demand for housing, prices haven’t made much improvement in recent months. Some signs of a second-wave of price corrections have emerged, but it’s still in its infancy. This leaves the market in a bind when it comes to any near-term drivers of demand.  

Credit isn’t cheap enough and prices aren’t rising fast enough to fuel and incentivize the high-leverage, speculative investors that drove demand in recent years. At the same time, end-users remain priced out of the market, even with policymakers expanding their leverage and lengthening repayment terms. 

“Housing psychology has changed, so cash flow and affordability fundamentals matter again. At these mortgage rate/home price combinations, the market is still locked up,” warns Kavcic. 

More bluntly, don’t expect rates to drive demand—the odds are stacked the other way. With elevated inflation expectations and stimulus off the table, deeper price cuts and improved end-user affordability are the last options left to get the market off life support.