Market Rate Forecast: No BoC hikes until at least 2023
BoC’s Headline Quote: “The Governing Council will hold the policy interest rate at the effective lower bound [intended to be 0.25%] until economic slack is absorbed so that the 2% inflation target is sustainably achieved.”
BoC on the Economy: “CPI inflation is close to zero…The bounce-back in [economic] activity in the third quarter looks to be faster than anticipated…The Bank continues to expect [a] strong reopening phase to be followed by a protracted and uneven recuperation phase, which will be heavily reliant on policy support.”
As we write this, Canada’s bellwether 5-year bond is almost unchanged, indicating the BoC’s announcement today did not alter market expectations for future rates.
Canadian rates will continue to hinge not only on our domestic data, but more importantly on changes in global rates and central bank expectations (mainly the U.S. Fed), which aren’t likely to change significantly this year.
It seems likely that March’s 150 bps of rate cuts is all we’re going to get. The median economist forecast, tracked by Bloomberg, is for Canada’s key lending rate to stick at 0.25% through 2022, in keeping with the Bank’s own quarterly forecasts.
The Bank keeps snapping up $5 billion of government bonds each week, helping suppress fixed mortgage rates. That “will continue until the recovery is well underway,” the Bank says, probably till next year. That suggests fixed mortgage rates will remain near historic lows for several weeks (at least).
The virus outlook continues to guide the Bank’s hand. At some point, COVID treatments and vaccines will make headlines and optimism will return in force. That’s on top of fiscal stimulus, more of which is sure to come (likely during the Prime Minister’s throne speech on Sept. 23). Does the economy then recover a year from now, two years, or more? It’s impossible to time. When it does happen, bond traders will get spooked and yields (and hence, fixed mortgage rates) will climb.
In the meantime, the Bank is more worried about downside risks to the economy and inflation than a surprise rebound. Analysts say that should keep rates relatively low into 2021.
How to Play It
Four months ago we wrote that 0.60% is a magic number for the 5-year bond yield. That remains the case today. So long as we don’t shoot above that level, fixed mortgage rates should stay near rock-bottom levels.
Those already in deep-discount variables (e.g., prime – 0.85%) have no reason to change course.
Most folks evaluating terms for a new mortgage continue to see more value in fixed rates, given the small premium to variables. But make no mistake, despite structurally high unemployment, there is extraordinary leverage and rising risk in the bond market. That’s thanks to unimaginably massive government borrowing. When the time comes, traders will price in this higher risk by selling bonds, which in turn will lift yields (interest rates). This may not happen anytime soon, but it will eventually come home to roost. We suspect many in longer-term fixed rates innately sense this. The overwhelming majority will keep locking in for five years to protect themselves.