Last Wednesday Statistics Canada confirmed that our overall Consumer Price Index (CPI) hit 4.7% in October on a year-over-year (YOY) basis.
That result marked our highest inflation rate in nearly twenty years but the bond yield surge that followed was nevertheless short lived.
The five-year Government of Canada (GoC) bond yield which our fixed mortgage rates are priced on finished the week lower than where it had started.
There were several reasons for this.
Last week we learned that the US Consumer Price Index (CPI) soared higher by 6.2% on a year-over-year basis in October, marking its highest monthly increase in 31 years.
The market’s reaction was as expected.
US Treasury yields surged higher as bond-market investors increased their bets that inflation would run hotter, and for longer, than previously estimated. Government of Canada (GoC) bond yields also rose in sympathy with their US counterparts.
The inflation run-up in the US and Canada has pushed our fixed mortgage rates about 0.75% higher over the past two months and has led to a drumbeat of warnings about variable-rate rises to come.
Not surprisingly, existing variable-rate borrowers are becoming increasingly nervous and are wondering whether they should lock in.
In this week’s post we’ll provide highlights for each of the items listed above, and I’ll close with a rebuttal to the recent rate-hike hype (which, bluntly put, is getting to be a bit much).
Let’s jump right in.
For example, when the pandemic first hit, everyone worried that we were going to run out of toilet paper. That led to hoarding, and before we knew it, the shortage everyone feared materialized. In retrospect, if the public had just kept its cool, there wouldn’t have been a problem. But fear took hold, perception became reality, and some people were left searching for a substitutable good.
Central bankers are increasingly worried that today’s perceptions about inflation could lead to a similar outcome.
If people believe that price pressure will remain elevated, they may well accelerate their purchase plans. That added demand could then fuel additional price rises, and if that happens, at some point, employees will start demanding raises to make up for their lost purchasing power. Higher labour costs would then likely lead to more price rises.
A self-reinforcing cycle of higher expected inflation leading to higher actual inflation is the primary risk that central bankers now face.
Inflation talk continues to dominate the headlines, as do warnings that borrowers should choose fixed-rate mortgages because variable rates will soon take off.
That’s safe advice to be giving right now.
Following the consensus provides cover if that call ends up costing borrowers money, and variable rates can seem like a scarier option in these uncertain times, because whereas the premium paid for fixed-rate safety is known, the potential cost of worst-case variable-rate scenarios is technically unlimited (leaving plenty of room for imaginations to run wild).
But how much risk are we really talking about?
Here are some questions – and answers – to help address that key question.
The Bank of Canada (BoC) is expected to continue tapering its quantitative easing (QE) purchases when it meets later this month, and Government of Canada (GoC) bond yields have moved higher in anticipation of that development.
Our fixed mortgage rates (which are priced on GoC bond yields) have recently risen by about 0.25%, and they may not be done yet. The US Federal Reserve has intimated that it will also begin tapering its QE purchases soon, and that will add more upward pressure on bond yields across the globe.
Somewhat strangely, when the BoC and the Fed officially announce their tapering plans, they will also almost certainly be slashing their 2021 growth forecasts.
Last week Statistics Canada confirmed that our economy added an estimated 157,000 new jobs in September.
That robust headline result came in well above the consensus estimate of 60,000, and the details in our latest employment report included other noteworthy milestones.
According to the latest data, we have now recovered all the jobs that were lost to the pandemic, and our participation rate, which measures the percentage of working age Canadians who are either working or actively looking for work, has also returned to its pre-pandemic level of 65.5%.
Five-year Government of Canada (GoC) bond yields surged higher in response, as bond-market investors priced in a more aggressive monetary-policy tightening timetable for the Bank of Canada (BoC).
The US headline consumer price index (CPI) fell from 5.4% to 5.3%, but the personal consumption expenditures (CPE) index, which is the US Federal Reserve’s preferred inflation measure, rose from 4.2% to 4.3%, marking its highest level in thirty years.
In a speech last Wednesday, Fed Chair Powell continued to attribute the inflation spike to supply-chain disruptions, and he reiterated the Fed’s belief that these will prove transitory. But he also acknowledged that “it’s very difficult to say how big the effects will be in the meantime, or how long they will last”.
Bond-market investors have grown tired of waiting for inflationary pressures to ease. Spiking inflation has eroded their returns, and they are now driving bond yields higher to restore them.
That development forces our central bankers to walk an increasingly fine line.
Last week the US Federal Reserve indicated that it expects to begin tapering its massive quantitative easing (QE) programs soon. More surprisingly, the Fed also indicated that it expects to fully unwind its QE purchases by the middle of next year.
That is a faster tightening pace than financial markets had anticipated, and investors reacted in typical fashion – by shooting first and asking questions later.
Our Government of Canada (GoC) bond yields surged higher in response, and that may push up our fixed mortgage rates, which are priced on them, over the near term. The Fed also had some comments that will be of interest (pun intended) to variable-rate borrowers.
In today’s post I’ll summarize what the Fed said last week, point out some inconsistencies, and offer my take on how its updated guidance (and taper plans) may impact our mortgage rates going forward.
Last week Statistics Canada confirmed that our overall inflation rate, as measured by our Consumer Price Index (CPI), spiked to 4.1% in August.
Inflation is at the forefront of people’s minds these days, and it has caused many to predict that higher mortgage rates are on the way.
I continue to disagree with that assessment.
It is certainly possible that a stubborn inflation spike could push the Government of Canada (GoC) bond yields, which our fixed mortgage rates are priced on, higher over the near term. But even if that happened, I wouldn’t expect the run-up to last very long.
Here are ten thoughts to support my admittedly contrarian view.
The Bank of Canada (BoC) held its policy rate steady last Wednesday and, as expected, refrained from materially altering its forward guidance in deference to our current federal election.
Because the Bank effectively stood pat last week, in this week’s post I will offer my assessments of the mortgage-specific proposals being put forth by our three main political parties.
Let’s start with a summary of what each party has put forward, with the courtesy of Move Smartly’s editor Urmi Desai:
The Bank of Canada (BoC) will be in a tough spot when it meets this week.
Normally it would try to hold steady in the middle of a federal election so that its words and actions aren’t seen to be favouring one party over another. But normal left town when the pandemic arrived and hasn’t been seen since.
The BoC will have to acknowledge our latest GDP data, which confirmed that our economy is on shakier footing than it previously believed, and more broadly, that we face a tougher road ahead.
Last Friday US Federal Reserve Chairman Jerome Powell delivered his much-anticipated speech at the Jackson Hole symposium, an annual global conference for central bankers, finance ministers, academics, and prominent investors.
In the lead up, the market consensus predicted (again) that rising inflationary pressures would compel Powell to signal a more hawkish Fed shift, and US bond yields rose in anticipation.
Powell acknowledged that the recent run-up in US inflation had been more intense and persistent than expected, but he qualified that observation with a detailed review of why the Fed continues to believe those pressures will dissipate. He also recommitted the Fed to its slow-and-steady approach, and US bond yields fell immediately afterwards.
If you’re keeping an eye on Canadian mortgage rates, Powell’s commentary is worth a quick review.
Fixed-rate mortgages offer stability, but variable-rate mortgages come with lower starting rates and, in most cases, produce net saving over the full term.
When the spread between fixed and variable rates is narrow (or non-existent) most borrowers lean toward fixed rates, but when it widens out, as it has of late, variable-rate options become more tempting.
It’s easy to understand why.
In addition to offering an upfront saving, variable rates come with the option to convert to a fixed rate at any time (at no cost) and a penalty of only three months’ interest if you decide to refinance or sell before the end of your term.
History is also on the variable-rate borrower’s side.
The Bank of Canada (BoC) and the US Federal Reserve plan/hope to keep their quantitative easing (QE) taps open and their policy rates nailed to the floor until their respective economies have fully recovered from their pandemic shocks.
But inflation could be the fly in their ointment.
If it proves to be persistent, the BoC and the Fed may be forced to start tightening their monetary policies sooner than they would ideally prefer.