The Bank of Canada has cut their overnight rate by 1.5% since the beginning of March, triggering lenders to drop their prime lending rates by the same amount. Bond yields have dropped to their lowest levels in years. Economies around the World are grinding to a halt as COVID 19 quarantine continues. And you mean to tell me mortgage rates are…rising!? How can that be?
Well, there are essentially two main contributing factors for the increase in rates:
1. Bank Liquidity Issues
2. Increased Risk to Invest with Banks
Bank liquidity issues
Banks source their funds from several different places. The cheapest and easiest funds to access are their deposits; the money that we put into our accounts. But with tons of bank customers being laid off and incomes being reduced, the base of those deposits has decreased dramatically. This makes the banks more reliant on other, more expensive sources of financing.
Increased risk to invest with Banks
Banks have long been viewed as a strong, secure investment. And while that is true, they have become more risky than they were in the past. It is inevitable during the weeks and months to come that some of their borrowers will not be able to repay their loans, mortgages and credit cards. There will be an increase in their defaults bringing with it an increased risk to invest in Banks.
As an individual or portfolio investor, that means you will require a higher return on products like Guaranteed Investment Certificates (GICs) to store your money there. And as an Institutional Investor, you will demand a higher return from the Bank for use of your funds.
With a shrinking pool of cheap, accessible funds along with increased costs to acquire and use others, Banks are being forced to raise rates to offset these increased Credit Spreads. As much as we like to vilify the Big Banks, they hold loans for airlines, retailers, oil & gas companies and hospitality sector companies that just are not generating the income they are used to. Add to this the tens of thousands of requests from mortgage holders to defer their payments and we can see why rates are doing the opposite of what we might expect.
There is a lot happening out there in the world today, and the uncertainty can be overwhelming. If we can help put your mind at ease and answer any questions you might have, please reach out. Remember we are all in this together and we will get through this together. Stay safe!