Scott Peckford

Walmart is entering the Banking business. I am not surprised really; other retail giants like Presidents Choice and Canadian Tire have tried with limited success.
The truth is the Walmart executives will have their work cut out for them.

Jim Flaherty changed the mortgage rules on April 19. The changes were designed to prevent Canadians from piling on too much debt.

Most of the changes will have a minor impact on the overall housing market.

In Kelowna the change is going to impact first time buyers who have been relying heavily on rental income to qualify for our expensive homes.

Rent is going to have to increase by 400% once the new rules take effect April 19. At least that is how it looks when you do the math. Flaherty announced changes to Mortgage Rules February 16 and one of the rule changes has to do with rental income.
Rental Income is being recalculated. Under the old system we could deduct $800 of rent for every $1000 of rental income. Under the new system we can only deduct approximately $200 per $1000 dollars of rent.

If you follow the financial news you may notice an alarming trend. One week the headlines will read,” Interest Rates Poised to Rise!” in a different paper the following week you may notice, “Bank of Canada Holds Key Lending Rate.” What is going on here? Are interest rates really that volatile? Or do journalists get some perverse pleasure in torturing people with variable rate debt?

The answer, it appears, is actually much less sinister. It is possible to have two Newspapers make contradictory interest rate claims and yet both be accurate. The trouble is when the term ‘interest rate’ is used you must ask an important question. Is the writer referring to fixed rates, variable rates, or both?
The reality is fixed rates and variable rates, although loosely linked, are about as similar as apples are to oranges. The reason for this is simple. Fixed rates are tied to bond yields while the variable rate is tied to the Bank of Canada overnight rate.

Where does the fixed rate come from?

Fixed rates are tied to the bond market and are actually more volatile in the short term. Bond markets trade daily and if a borrower wants a fixed rate mortgage the lender will go to the bond market and grab some money, mark it up and lend it to the borrower. If the 5 year bond was at 2.50% a lender may charge 3.85% to 4.55% or more on a 5 year mortgage. The profit comes from the spread between their cost and their lending rate.
Clearly if the bond market goes up the lender is going to pass on the higher cost to the borrower. (Incidentally a reasonable spread between bonds and fixed rates is 1.35% -1.55%. Be aware however, many lenders will try and charge 2.00% or more if they can get away with it.)

Where does the variable rate come from?

Variable rates, on the other hand, are tied to the Bank of Canada overnight rate. The Bank of Canada has not adjusted the overnight rate since April 21, 2009 –it has remained completely flat. However, fixed rates have swung widely back and forth by more than 1.00% over the same span.

The Bank of Canada (BoC) manipulates the overnight rate to influence the economy. They use it like the brake on a truck. If the economy is going too fast they will raise the rates, apply the brake, in order to slow the economy down. Alternately, like the past year, the BoC will take off the brake, lower rates, to get the economy moving again.

This brings me back to the point of this article. The BoC has reaffirmed their commitment to keep the overnight rate unchanged until June 2010. As you are now aware this does not mean the fixed rates mortgages cannot change. In fact there is a very real possibility fixed rates will actually begin climbing before the BoC adjusts the interest rate.

Like most things in life, the devil is in the details. If you would like some advice on where rates are going and what it means for your specific situation talk to your Mortgage Planner or banker today.

Scott Peckford is a Mortgage Planner and owner of Mortgage Architects and can be reached at scott@scottpeckford.ca