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Boyd Erman
Globe and Mail Update
After a year of making it easy by telling the market exactly what the Bank of Canada would do with borrowing costs by giving a commitment to keep them at emergency lows, Governor Mark Carney has rapidly switched tacks. The country’s top central banker is now confounding those who would try to predict exactly how fast interest rates will rise by refusing to give explicit guidance.
Yesterday’s quarter-point increase in the benchmark central bank rate and the accompanying statement show that the kind of transparency markets get from Mr. Carney as borrowing costs go up in coming months is going to be very different than what they have become used to over the first part of his tenure, when rates dropped to record lows and stayed there.
In this statement, Mr. Carney is being open but not predictable. He is laying out the parameters he is watching and leaving it to markets to try to figure out what that will mean for rates. It’s an education for investors and analysts, because this is the first time they have seen Mr. Carney raising borrowing costs.
“It’s going to be more fun being the central banker in this environment than being a forecaster,” said Mark Chandler, a rates strategist at RBC Dominion Securities who predicts “a whole bunch of angst” before every Bank of Canada rate announcement in coming months.
Just as the explicit commitment to keep rates low served a purpose by giving an uncertain economy some certainty, the new move to the other end of the predictability spectrum gives Mr. Carney the flexibility he needs to deal with a stop-and-go rebound in growth.
The economy posts a couple of hot quarters and inflation ticks up? Fine, a quarter point tighter it is. But then we wait and see.
This isn’t a normal recovery, so there’s no sign of the central bank’s normal language in a tightening cycle. Usually, there is wording foreshadowing a steady move higher, along the lines of “some further reduction of monetary stimulus will be required,” to quote a 2005 rate hike announcement. This time, the guidance is that “any further reduction of monetary stimulus would have to be weighed carefully against domestic and global economic developments.”
With that, Mr. Carney has established himself as neither hawk nor dove, just a pragmatist who watches the data and the markets and reacts.
Already, there are signs that the new strategy is a success. The market is re-evaluating its belief that more rate cuts are a sure thing.
Read more at:
www.theglobeandmail.com
More about forecasting interest rates:
Economists use a variety of techniques to forecast interest rates. The most basic is to use economics and history as a guide and to make a judgement about what an appropriate level of interest rates and their future course given the state of the economy and important economic variables. Since most economists disagree on how the economy works or what economic history means, this is more difficult than it seems.
See Schools of Economic Thought.
Quantitative economic statistical techniques called “econometrics” attempts to model the economy using mathematical and statistical relationships. A comprehensive model of the economy might have hundreds of equations and many variables. The problem with these techniques is that while they might have a “high explanatory power” or be “robust” historically against “back-tested” data after the fact, they are very poor at explaining the future before the fact.
See Econometric Techniques.
The reason for this inaccuracy is simple. Interest rates reflect human behaviour which is highly complex. This complexity has been compounded by the internationalization of economies and the financial markets. The direction of Canadian and U.S. interest rates is partially set by those of other countries, particularly Germany and Japan. Even governments miss their interest rate forecasts and they have control over their countries’ monetary and fiscal policy.
June Issue of CAAMP Stats
 |
|
Bank of Canada Interest Rate
| April 20, 2010 | 0.25 % |
| June 1, 2010 | 0.50 % |
| July 20, 2010 | Next meeting date |
Source: Bank of Canada
Bank Prime Lending Rate
| April 21, 2010 | 2.25 % |
| June 2, 2010 | 2.50 % |
| July 21, 2010 | Next meeting date |
Source: Bank of Canada
Conventional Mortgage – 5 Year Rate*
| April 28, 2010 | 6.25 % |
| May 12, 2010 | 6.10 % |
| May 26, 2010 | 5.99 % |
Source: Bank of Canada
*Determinant for high ratio mortgage variable qualifying rate
US Federal Reserve Board Discount Rate
| March 16, 2010 | 0.00 % – 0.25 % |
| April 28, 2010 | 0.00 % – 0.25 % |
| June 23, 2010 | Next Meeting date |
Exchange Rate $CDN($US)
| April 29, 2010 | 0.9946 |
| May 14, 2010 | 0.9693 |
| May 31, 2010 | 0.9583 |
Source: Bank of Canada
Government of Canada Bonds
| Bond Type | April 28, 2010 | May 12, 2010 | May 26, 2010 |
| 1 year Treasury Bill | 1.29% | 1.26% | 1.02% |
| 3 year Benchmark
Bond Yield |
2.49% | 2.38% | 2.00% |
| 5 year Benchmark
Bond Yield |
3.09% | 2.96% | 2.55% |
| 10 year Benchmark
Bond Yield |
3.66% | 3.59% | 3.25% |
Source: Bank of Canada
Total New Housing Starts (Seasonally adjusted and annualized)
| Province | February
2010 |
February
2009 |
March
2010 |
March
2009 |
April
2010 |
April
2009 |
| Newfoundland/Labrador | 5,300 | 3,200 | 6,000 | 3,300 | 3,100 | 2,800 |
| PEI | 300 | 500 | 300 | 400 | 400 | 500 |
| Nova Scotia | 6,300 | 4,700 | 3,900 | 3,800 | 3,600 | 2,500 |
| New Brunswick | 2,400 | 3,200 | 3,700 | 3,400 | 3,600 | 4,200 |
| Quebec | 47,300 | 36,900 | 55,300 | 43,600 | 53,700 | 41,100 |
| Ontario | 73,300 | 47,100 | 63,200 | 62,600 | 64,700 | 36,300 |
| Manitoba | 5,400 | 3,700 | 3,800 | 3,500 | 3,400 | 3,100 |
| Saskatchewan | 5,000 | 2,300 | 4,000 | 2,100 | 4,200 | 2,900 |
| Alberta | 28,300 | 12,600 | 34,100 | 11,900 | 35,700 | 12,400 |
| British Columbia | 30,200 | 14,200 | 24,900 | 11,900 | 28,300 | 11,700 |
| CANADA | 203,800 | 128,400 | 199,200 | 146,500 | 200,700 | 117,600 |
Source: CMHC Housing Now – May 2010 and May 2009. This seasonally adjusted data goes through stages of revision at different times of the the year.
Average MLS Resale Price for Local Markets
| City | April 2009 | April 2010 |
| Halifax | $245,412 | $247,168 |
| Saint John | $166,172 | $166,836 |
| Quebec | $206,739 | $232,188 |
| Montreal | $267,236 | $293,393 |
| Ottawa | $298,593 | $333,854 |
| Toronto | $385,641 | $437,566 |
| Hamilton/Burlington | $286,191 | $317,909 |
| Winnipeg | $212,541 | $236,574 |
| Saskatoon | $276,455 | $299,214 |
| Calgary | $371,995 | $395,847 |
| Edmonton | $312,127 | $339,172 |
| Vancouver | $565,003 | $673,579 |
| Victoria | $455,143 | $518,536 |
Source: Canadian Real Estate Association
Housing Affordability Index
Canada first in G7 to increase interest rates
Jeremy Torobin,
The Globe and Mail
As expected, the Bank of Canada raised its benchmark interest rate for the first time since 2007, saying inflation is unfolding as expected and that spillover from the European debt crisis has been limited, while stressing there remains “considerable uncertainty” about an “increasing uneven” global recovery.
By lifting the central bank’s overnight rate by one-quarter of a percentage point to 0.5 per cent after more than a year at a record low level, Governor Mark Carney has become the first central banker in the Group of Seven to tighten since the financial crisis and recession began in 2008.
In a statement on the move, however, Mr. Carney and his rate-setting panel sought to emphasize that investors should not necessarily interpret the increase as the first in an uninterrupted series.
“This decision still leaves considerable monetary stimulus in place, consistent with achieving the 2 per cent inflation target in light of the significant excess supply in Canada, the strength of domestic spending and the uneven global recovery,” the central bank said Tuesday. “Given the considerable uncertainty surrounding the outlook, any further reduction of monetary stimulus would have to be weighed carefully against domestic and global economic developments.”
The central bank’s statement touched on themes that will no doubt be front-and-centre at the Group of 20 leaders’ meeting in Toronto at the end of June, where Canadian officials have said they will be pushing for continued efforts to smooth out the global imbalances that exacerbated the slump that much of the world is still clawing out of.
“The required re balancing of global growth has not yet materialized,’’ the bank said, contrasting “strong momentum’’ in emerging markets with recoveries in economies such as the United States and Japan that remains “heavily dependent’’ on low interest rates and government spending.
“In general, broad forces of household, bank, and sovereign deleveraging will add to the variability, and temper the pace, of global growth,’’ policy makers said.
While flagging the possibility of “renewed weakness’’ in Europe, where drastic spending cuts and higher borrowing costs will be the likely result of continent-wide debt problems, so far the effects of the crisis on Canada have been “limited to a modest fall in commodity prices’’ and somewhat tighter financial conditions, the bank said.
The Canadian economy, which on Monday posted a whopping 6.1-per-cent annualized growth rate for the first quarter – the fastest in more than a decade – is “unfolding largely as expected,’’ the bank said, led mostly by a hot housing market, higher incomes and a labour-market recovery that have helped fuel consumer spending.
Still, the central bank suggested that household spending and the economy will slow in the coming months as consumers deal with higher borrowing costs and try to limit or reduce their debt loads and as government stimulus spending fades. As a result, an “anticipated pickup in business investment will be important for a more balanced recovery,’’ the bank said.
Inflation, which the central bank has been watching closely for months, has been in line with policy makers’ projections to exceed 2 per cent this year and reflects a combination of strong domestic demand, slowing wage increases and “excess supply’’ leftover from the recession.
The central bank also said it is making a technical, yet significant, change to re-establish “normal functioning’’ of the overnight market, whereby its benchmark will return to halfway between the rate it pays to chartered banks to hold deposits and the amount that it charges private-sector lenders for loans.
An Updated Variable / Fixed Rate Comparison
Courtesy of Bernice Lim, from Street Capital, we bring you an updated variable / fixed comparison.
The comparison takes as a base the prediction of many economists, who see rate hikes of as much as 300 BPS Within the next 2 years. Keeping this in mind, the comparison has been updated to reflect a 300 BPS increase over the next 24 months.
- It compares a mortgage at P-50 (currently 1.75%) to a 5 yr fixed at 4.49%
- It factors in increases in prime over the next 24 months. Prime would go up to 5.25%
- It places the monthly payments for both products to be the same (take the variable product, but make payments at the fixed rate).
Click on images for larger view
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The variable product has net savings of over $4,700 over the 5 year term – even with a 300 BPS increase in prime!!!
Click on image for larger view
Results of Comparison
Mortgage amount of: $250,000.00
- Option 1 / Option 2 Principal Balance after 5 Years $214,688.59 $219,454.81
- Option 1 Interest savings (-$costs) at end of 5th year: $4,766.22
- Option 1 results in paying more (-$less) in mortgage payments after 5 years by -$0.00
- Option 1 principal balance after 5 years will be -$4,766.22 less than the Option 2 Mortgage
- The Option 1 mortgage has an advantage (-$disadvantage) of $4,766.22 over Option 2 after 5 years
* This sheet is for information purposes only and accuracy is not guaranteed.