Looking at the real estate industry, 2020 was a tumultuous year with startling developments in key indicators, such as the number of new listings, sales, and housing prices. What wasn’t so surprising was the movement of mortgage rates after April 2020, brought on by policy decisions by the Bank of Canada but also movements in the bond market.
Fear about a mysterious coronavirus started to spook markets towards the end of January, with investors rushing towards the safety of government bonds and away from risky securities such as equities. This large influx towards government bonds put immense pressure on bond yields as bond prices soared). For example, the price of a 30-Year Government of Canada bond auctioned on November 14, 2019 had a price of $109.389. An auction for a 30-Year bond on August 12, 2020 had a price of $123.089.
However, what matters to mortgage rates is the 5-Year Government of Canada bond yield, which quickly fell from 1.6% at the start of the year to a low of almost 0.31% during the summer. This represents a decline of 80%, largely brought on by bond buying programs from the Bank of Canada. In an effort to stimulate the economy, the Bank of Canada purchased at least $5 billion of government bonds throughout 2020, which helped to lower interest rates. The intention of low interest rates is that consumers and businesses will increase their borrowing and spending. This was certainly seen as low mortgage rates resulted in an upsurge in housing prices.
Fixed-rate mortgages are determined by government bond yields. With bond yields plummeting 80% in 2020, mortgage rates in Canada in turn plunged to their lowest rates in history. Some of Canada’s major banks offered five-year fixed mortgages for under 2%, while some mortgage lenders featured very low mortgage rates as low as 1.3%. Spurred on by low mortgage rates, housing activity rebounded after a slump during the spring.
At the same time, action by the Bank of Canada led to a decline in variable-rate mortgages, which are guided by the Prime Rate. In previous years, the Bank of Canada followed the U.S. Federal Reserve by steadily increasing their policy rate from 2017 until 2019, with the Bank of Canada maintaining a slight discount compared to theFed funds rate.
This changed in July 2019 when the Fed started to decrease their policy rate, yet the Bank of Canada decided to maintain their overnight rate. A tipping point was reached when the Fed funds rate dropped below the Bank of Canada's overnight rate in November 2019. Pressure started to grow for the Bank of Canada to cut their policy rate, especially as the economy faced an already existing slowdown heading into 2020.
It wasn’t until March that the Bank of Canada started cutting rates, but when they did, it was intensive and decisive. In quick succession, three rate cuts dropped the policy interest rate from 1.75% to 0.25% in March 2020, a record low. This finally brought relief to variable-rate mortgages, which are dependent on the prime rate, rather than government bond yields.
The Bank of Canada also introduced an asset purchasing program focused on buying up Government of Canada bonds at a rate of $5 billion per week. Starting in March, the program racked up $156 billion in bonds by the end of October. These purchases pushed up bond prices, which results in lower bond yields. In turn, lower bond yields meant lower mortgage rates.
Amid a year of uncertainty, what remained incredibly certain was the direction of interest rates. Although slowing its quantitative easing program to $4 billion per week, the Bank of Canada continued to make clear that they will maintain the current policy interest rate until a 2% inflation target is achieved, which is not forecasted until 2023. Mortgage rates fell to levels not seen before in 2020, and remained that way through to the end of the year. Although the direction of future rates are up in the air past 2023, mortgage rates tumbled in 2020 and can be expected to remain low in the near future.