Canadian Mortgage Borrowers Indulge in Rate Cut FOMO, Reject 5-Year Terms

Delve into the intriguing phenomenon of Canadian mortgage borrowers succumbing to fear of missing out (FOMO) on rate cuts, as they shun the traditionally favored 5-year mortgage terms. Explore the reasons behind this shift in borrowing behavior and gain insights into the potential consequences for the Canadian housing market. Stay informed with this insightful article.

The Canadian mortgage market is experiencing a fascinating trend. While borrowers are wary of the risks associated with variable rate mortgages, they are fervently hoping for rate cuts. Bank of Canada (BoC) data reveals that a record share of mortgage originations had fixed interest terms in June. However, rather than opting for the traditionally popular 5-year fixed term, borrowers are instead selecting shorter terms in order to avoid potential short-term rate hikes while still staying open to the possibility of rate cuts in the future.

Rising interest rates have enticed mortgage borrowers back towards fixed rate mortgage terms, resulting in a remarkable 95% of mortgage originations being fixed rate in June—an all-time record high. This is in stark contrast to the previous year when the majority of mortgages carried variable rates.

What makes this shift particularly intriguing is that while fixed terms are at a historic high, the share of 5-year fixed rate mortgages has plummeted to just 13% of originations, marking a record low. This represents a significant departure from the peak of 65% seen in 2020. This shift is likely a result of the diminishing gap in financing costs between 3 to 5 year mortgages, prompting borrowers to consider shorter terms as a viable alternative.

In June, mortgages with terms ranging from 3 to 4 years boasted average interest rates similar to those of their 5-year fixed rate counterparts. Opting for shorter terms allowed borrowers to secure lower interest rates, thereby reducing costs and maximizing leverage. However, the motivation behind Canadian mortgage borrowers' affinity for shorter terms goes beyond cost considerations. It is primarily driven by the desire to keep options open and not miss out on potential rate reductions down the road.

Most households in Canada anticipate lower rates in the future, and many experts concur with this outlook. However, the timing and extent of rate cuts remain uncertain—an inherently challenging aspect to predict accurately. While consumers eagerly anticipate rate cuts, any unexpected economic weakness could potentially ignite inflationary pressures. The Bank of Canada, having experienced this scenario in the past, would likely want to avoid a repeat of the issue, especially considering that home prices are approaching inflationary levels.

Attempting to forecast just how low rates might go is an even more precarious endeavor. While many consider pre-Global Financial Crisis interest rates as the benchmark for "normalcy," these levels were artificially low due to post-crisis stimulus efforts. Various factors, such as excess liquidity provided by global investors, drove bond yields and financing rates to historic lows. However, experts caution that these factors are rapidly reversing now that inflation has resurfaced and geopolitical challenges make bond markets less welcoming.

In conclusion, the Canadian mortgage market is witnessing a significant shift in borrower preferences. While fixed term mortgages have surged in popularity, the once-favored 5-year fixed rate term has lost its appeal. Instead, borrowers are opting for shorter terms to safeguard against potential rate hikes while remaining open to potential future rate cuts. As the mortgage landscape continues to evolve, it is essential for borrowers to carefully consider their options and consult with knowledgeable professionals to ensure they make informed decisions that suit their individual financial circumstances.