Only fools lock in for a decade. That’s what many thought prior to this year, and some still do.
But at least now it’s more debatable. That’s because, for the first time ever, there’s a 10-year mortgage with a 1-handle.
On Monday, a few mortgage brokers started advertising a 1.99% 10-year fixed, breaking Tangerine’s prior record of 2.14%. The move came after mortgage finance company CMLS Financial launched a new 10-year promotion in the broker channel.
Like almost all of the lowest broker offers, this 1.99% is bought-down, meaning the brokers are coughing up the majority of their commission to offer customers a lower rate.
Is it Finally Time for a 10-Year?
All the knocks against 10-year fixed rates must now be reassessed—including arguments that:
- 10-year premiums are too big given structurally low inflation and Canada’s low-for-long rate environment
- 10-year early termination penalties can be harsh if you break the mortgage before five years.
Before we get into that, however, here’s a quick rundown of the features and requirements of this deal:
- Loan-to-value: 65% or less, or over 80%
- Mortgage type: Purchases and switches only (no refis)
- For refinances, Tangerine’s 2.14% is still the best 10-year on the block
- Rate hold: 120 days
- Prepayment options: Annual 20% lump-sum and 20% payment increase
- Minimum credit score: 720 (or 660 if high-ratio)
- Permitted amortizations: 12-25 years
The offer is from a fair penalty lender (CMLS Financial), but you’ll still want to avoid this product if there’s any material chance you will:
(A) break the mortgage before the 60-month mark
(B) need to refinance before the 60-month mark.
Before five years, 10-year penalties can be extreme. After five years, the prepayment penalty is as good as it gets, just three-months’ interest. That’s cheap enough to break the mortgage early and go elsewhere, which you might need to do if:
- interest rates are lower in five years and you want to reset your rate
- you need to refinance (e.g., break the mortgage and pull out equity) and the lender doesn’t give you a good enough deal, or
- you want to buy a more expensive home after five years, and the lender doesn’t give you a low enough rate on your new borrowing.
Compared to the lowest 5-year fixed rates — and assuming you ride out the mortgage with no changes — a 10-year is guaranteed to cost you about $3,000 more over the first 60 months, per $100,000 of mortgage. That’s a big chunk of change.
That said, what happens after five years is where a 10-year mortgage proves itself.
For example, if your 5-year fixed came up for renewal and the best available rates at the time were over 1.57 percentage points higher, you would have been better off paying more upfront for the 10-year fixed.
How likely is a 157+ basis-points surge in rates over five years? Well, if you look back to January 1951 (as far back as Bank of Canada long-term mortgage data goes), it’s happened roughly 17% of the time.
But this time around, we could see an economic recovery like no other, thanks to:
- Deficit spending in Ottawa, to the tune of $380+ billion — the largest in the developed world, as a share of GDP
- Ongoing stimulus spending in the U.S., especially if the Democrats take all three branches of government (we’ll know how that plays out in January)
- Pent-up consumer demand that should be unleashed post-vaccine
- A record 28.2% savings rate (in Q2 2020), a good portion of which will be spent in coming years
- COVID-related supply constraints
- Quantitative Easing
- Mounting home and stock prices
- Emergency-low near-zero interest rates
- Record government bond issuance
- Higher borrowing demand once the recovery accelerates.
All of this could eventually be inflationary and/or bullish for mortgage rates, other things equal.
Counterbalancing these factors are long-term unemployment in devastated industries, exports that are far below pre-pandemic levels and other COVID-caused macro scars.
So, while inflation risk is low today, if there ever was a time we might see inflation rocket above the BoC’s 2% comfort level, the next five years might be it. At least, that’s what the inflation hawks claim.
If you believe those people, 1.99% is a historical pittance for a whole lot of rate security.