One of the most common mortgage questions is whether to go with a fixed or a variable rate. Some mortgage professionals will advise to always go variable, however, this is not the best choice for everyone. While variable rate mortgages have historically outperformed fixed from a cost savings perspective, there are many people who are not wired for the uncertainty that comes with having a variable rate mortgage.

We are also in a bit of a different time and the past doesn’t always equal the future. With the Bank of Canada already increasing their rate by 0.75% since March 2nd, and with more rate increases expected, the choice between fixed and variable becomes all that much tougher.

The question is… are fixed rates now the way to go and how can you be certain that you’re making the right choice?

We’re in a different time where the choice is not quite as easy as it has been in the past.

The spread between fixed and variable is currently around 1.50%, which remains one of the largest spreads we have seen in years. The large spread could however be erased by the end of the year.

What exactly does that mean?

This means that today’s variable rates are roughly 1.50% lower than their fixed rate alternatives. This gives you a head start and added protection against rising rates. But as the Bank of Canada continues to increase their rate, then this head start (spread) could be eliminated by the end of the year. 

This means a 1.50% increase from the Bank of Canada would bring today’s variable rate equal to today’s lowest fixed rate mortgage.

 

What if Your Variable Rate Moves Up Above The Fixed Rate Option?

A common belief is that your variable rate cannot move up over the fixed rate option available at the time you got your mortgage.

Nothing can be further from the truth. 

If your variable rate mortgage moves up ahead of the fixed, you aren’t automatically losing. You’re just starting to give back some of your savings.

Yes, it can get to the point where rates continue to increase to a point where you’re eventually losing. That is the risk. But there has never been a time in history where the Bank of Canada has increased their rate but has not also decreased within the same 5 years. Decreases are expected to follow, which I’ll discuss shortly.  Let’s first address the expected rate increases.

 

What Can We Expect From The Upcoming Bank of Canada Rate Announcements?

The Bank of Canada has no choice but to act aggressively in order to keep inflation under control. While they need to be mindful of the economy, their number one priority right now is inflation, and they are prepared to do whatever it takes to bring this under control. 

This is why they are being so aggressive and why we can expect them to increase their rate by another 1-2% within the next year. 

The next rate announcement will come on June 1st. It’s not a matter of whether or not they increase their rate. 

They Will.

It’s just a matter of how much they increase it by. 

They have not left a triple increase of 0.75% off the table, however, I think it’s unlikely they will act quite this aggressively. While it’s possible they could only increase by the standard 0.25%, I think this is also unlikely. I would expect another increase of 0.50% on June 1st, with another possible 0.50% increase on July 13th, followed by two more 0.25% increases by the end of the year. While this is what I would expect, the exact number of increases along with the amounts are unknown and anything can happen.

All these expected increases are enough to drive even the most diehard variable rate advocates into going with a fixed rate. It’s a significant increase in a very short period. But that doesn’t mean that everyone should be going with a fixed rate.

 

Risk Tolerance

One of the biggest considerations to make is your tolerance for risk. If you are terrified of the thought of rates increasing out of control and if this is a major source of anxiety for you, then a fixed rate mortgage might be the better choice. 

That doesn’t mean that fixed rates don’t come with any risk.

 

The Risk With Choosing a Fixed Rate

With a fixed mortgage rate, your rate and payment are guaranteed for the full term of the mortgage (five years is most cases). This gives you certainty and peace of mind, however, it comes at a premium in the form of a higher rate which is currently around 1.50% more than the lowest variable rate options.

It’s like paying for insurance to protect you against the variable rate surging higher than the fixed rate.

The risk is that you’re locking into a fixed rate when it is at highest it has been in 11 years, currently ranging from 3.79% to 4.29% depending on your situation.

 

The Risk With Choosing A Variable Rate

There is a lot of uncertainty when it comes to variable rate mortgages, and you don’t have any control over how high the rate can go. It’s this uncertainty that many feel uncomfortable with, which is why many prefer the stability of a 5 year fixed rate.

It is also possible that the Bank of Canada could increase their rate by more than expected.

It could also take them longer for them to come through with the rate drops to follow.

Anything can happen.

 

Lower Rates To Follow

While these rate increases are required to bring inflation under control, they are expected to wreak havoc on our economy. The Bank of Canada will then need to shift their focus to protecting it, which is when we can expect rates to drop back down again.

This is expected to happen at some point in 2024.  

It’s at this point where those with a fixed rate mortgage will be looking at switching in the middle of the term to take advantage of the lower rates. 

One of the biggest problems with a fixed rate is that the more rates fall below your current rate, the higher your penalty becomes. In these cases, it’s not about switching when rates reach their lowest. The penalties at that stage would likely make switching cost prohibitive. It’s about finding the right combination of penalty and lower rate.

The penalty can also vary substantially from one lender to the next. The penalty to break a fixed rate mortgage with a major bank can be as much as 900% higher than most of the non-bank lenders. This could mean the difference between a penalty of $5,000 or $45,000.  There is not always this large of a difference, but I just wanted to give you an idea of how big it can be.

That doesn’t mean that you will never see large penalties with non-bank lenders.  As mentioned, if rates fall substantially lower than your current rate, then you could end up with a large penalty regardless of lender. 

The only way to guarantee a specific penalty is to go with a variable rate mortgage, which almost always carries a penalty of three months interest.

Over the past 40+ years, variable rate mortgages have traditionally beat out fixed more than 80% of the time.

I would bet the bulk of the ones who lost were the ones that converted too early. What often happens is people panic. They may have heard from their friend that rates are skyrocketing and that they better lock in now or they will be homeless.

This is the kind of bad advice can lead to panic, which can lead to jumping the gun which many unfortunately do.

This is why I always advise our clients to check with us before making any moves. We’ll assess your individual situation, and you can count on us for the same advice we would give to our own mothers. It’s this level of advice and care for our clients that has made us one of the top mortgage brokers in Canada.

There is no question that the expected variable rate increases will be painful for those currently in variable rate mortgages. This is why it’s so important to be mentally prepared for the increases to come.

Rates will rise further. This is certain. 

However, anyone locking into a fixed today is locking in the highest rate in over 10 years and would then miss out on the expected downward swings to come.

For this reason, variable rate mortgages can still be a great choice, but that doesn’t mean that everyone should be choosing variable.

The best choice is not always the one that saves you the most money, it’s the one that allows you to sleep soundly at night.

Anything can happen.

 

Conclusion

The choice between fixed and variable is a personal decision. Just because a choice is right for one person doesn’t mean it’s right for everyone. We’re all a bit different which is why I’m always saying that there is no one size fits all mortgage advice.

Variable rate mortgages can still be a great choice and will still likely win out over fixed in the long run. You just need to be prepared for the rate increases to come.

It’s not always about saving the most money.

It’s about doing what feels comfortable.

You’d need a crystal ball to know the right decision. There is risk involved with either decision as explained above. 

The question you need to ask yourself is which risk is more suited to you personally. We’d be happy to discuss your situation with you in detail and help you to determine the best choice suited for you and your family specifically.