If you’ve ever been involved in mortgage negotiations, you have probably asked yourself: “How are mortgage rates determined?”
The answer depends on whether you are talking about a fixed or variable rate. While most of us keep an eye on the prime rate to determine what mortgage rates will be, that rate only tells us part of the story.
The prime rate is set by the Bank of Canada (BoC). It is the rate you hear discussed most often in the news. Banks use the prime rate as the basis for variable rate loans. As the prime rate fluctuates, so do the rates that banks charge for borrowing money.
Banks do not charge the actual prime rate on the money they lend. They will often add a premium when the prime rate is low and sometimes offer interest rates lower than prime (prime plus 1% or prime minus 0.5%).
If you have a variable-rate mortgage, your interest rate is tied to the prime rate. As it increases and decreases, so will the rate charged on your mortgage.
Fixed mortgage rates are not directly dependent on the prime rate. Rather, they are based on yields in the bond market. Bonds are issued by governments and some large businesses. The yield is the return an investor will receive by holding the bond until it matures. Bond yields can fluctuate in response to changes in the stock market, the wider economy or even political events. When a bank invests in a mortgage, it factors in the current yields in the market to determine its fixed interest rate.
In general, higher bond yields mean increased costs for banks. This, in turn, means higher interest rates for fixed-term mortgages. On the other hand, lower bond yields usually translate into lower fixed-term mortgage rates.
To know where fixed rates are headed, you can watch the bond market. Or you could talk to a CMI certified mortgage broker.
There are no absolutes on this question. There are many factors to consider, including: the current prime rate, predictions about where prime is headed, bond yields, the overall economy and its impact on interest rates, and your own tolerance for risk.
In times where the prime rate is stable, a short-term variable-rate mortgage may be a good choice for you, but you need to be prepared for changes in your monthly mortgage payment. If the prime rate is set to increase steadily, it may be best to lock into a fixed-rate mortgage.
The key thing to remember is that you have options. No matter how mortgage rates are determined, you can negotiate for better terms to ensure you get the home financing that is best for you. What’s more, a CMI mortgage broker can carry out all of the negotiations for you. With our wide network of mortgage lenders, we can find the mortgage rate – fixed or variable – that best suits your lifestyle and budget.