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April 27, 2018 | Seriously

A best-selling Canadian author of 14 books on economic trends, real estate, the financial crisis, personal finance strategies, taxation and politics. Nationally-known speaker and lecturer on macroeconomics, the housing market and investment techniques. He is a licensed Investment Advisor with a fee-based, no-commission Toronto-based practice serving clients across Canada.

Shortly after I finished writing yesterday’s blog post about interest rates going up, they went up.

So two of the Big Five have increased the cost of mortgages and you can bet the other guys will follow. Toronto Dominion was most aggressive, adding almost a half point to its five-year home loan, pushing it out to 5.59%. RBC was gentler, adding 20 bips, for a posted rate of 5.34%. This suggests the Bank of Canada will soon up the benchmark rate it uses for the B20 stress test, currently sitting at 5.14%.

Why did this happen? Will it continue?

The Government of Canada five-year bond had a yield of just 1.6% six months ago, and this week it touched a seven-year high of about 2.2%. That’s an increase of almost 40% in a flash, and happened while the yield on 10-year US Treasuries (the Stormy Daniels of the debt world) touched 3% for the first time in years.

The cost of money, in short, is going up. No surprise there, since the world is inflating again. Global growth is on its way to 4% in 2018. The US economy’s doing pretty good. The Chinese trade war rhetoric is winding down. Kin Jung Un turns out to be a jolly little elf who just wants to be hugged. American corporate taxes have plunged and business profits are romping higher. Unemployment numbers are way down and the States is at technical full employment.

So, bonds are hot. The yield on risk-free government debt is now rivaling the dividends stocks pay, which is why a bucket of money is flowing from equities to fixed income. The election of the Trumpster is widely viewed as the moment in time when the switch was flipped from deflation to inflation, from contraction to growth, and from a low-yield, low-rate world to one in which the poor moisters are lost. Yes, kids, the Eighties are coming back. You’ll love it. Seriously. Lower house prices – but fatter rates.

Of course the posted bank mortgage rate is not the actual rate offered to customers. Five-year mortgages are still available for about 3.3% to renewers, but (a) that will soon change and (b) new borrowers have to prove they can pass the stress test.

So I’ll say it again. We are in the middle of a rate event, not at the end. The Fed has increased six times since the end of 2015 and five times in about the last year. The Bank of Canada has moved three times, and markets are betting the next comes in July.

The broad expectation now is for four Fed hikes this year, rather than the three anticipated a few weeks ago. The next one won’t occur on Wednesday, but like mid-summer, with another in the autumn. The Bank of Canada is expected to go twice by the end of the year, depending on the economic data – especially the pace of job creation.

Those who argue the cost of money will stay put because the central bank is afraid of the housing market are misguided. The bank cares about what you owe, not what you own. Household debt is out of control, with mortgage borrowing at unheard-of levels and HELOCs mushrooming monthly. Policymakers can’t afford to worry about average house prices in Vancouver or Toronto when keeping them aloft means family balance sheets continue to deteriorate. The greatest economic threat is excessive snorfling. Gradually and relentlessly higher rates are designed to throttle that. Besides, governments at all levels – from the feds (B20) to the provinces (anti-foreigner taxes) to the cities (empty houses levy) – have enacted laws to put the brakes on real estate. Forcing mortgage rates higher is entirely consistent.

Finally, remember that roughly half of all mortgages in Canada come up for renewal in 2018 – a quirky coincidence caused in part because so many people opted for cheaper two-and three-year loans when house prices started to explode in 2015. Thousands of families who borrowed at barely more than 2% will be renewing at a 50% increase – plus with B20 in effect most won’t dare switch lenders, seeking a better deal.

No, rates like these will not cause a recession or collapse the economy, as happened in the early 90s. There’ll be no tsunami of defaults. No jingle mail. No mattresses on the front lawn as bailiffs change the locks. No drama. Just the slow drip-drip loss of equity, as buyers are squeezed for financing and sellers get lonely.

By the way TD – while raising its fixed-rate mortgage rates – just dropped its variable by 15 bips. Be careful. This is the banker equivalent of a Victoria’s Secret push-up bra.

Can I still say that?

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April 27th, 2018

Posted In: The Greater Fool

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