Canadians should be prepared to pay significantly more to borrow for a mortgage as easy credit is coming to an end. The yield on 5-year Government of Canada (GC) bonds rose to 1.978% today, the highest level in over a year. A booming economy and rampant inflation are driving up return expectations. As the yield on 5-year Government of Canada bonds rises, expect the 5-year fixed rate mortgage to rise as well.
Government of Canada bond yields impact fixed rate mortgage costs
The yield on 5-year Government of Canada bonds influences credit of similar durations, including mortgages. Because credit markets are competitive, bond issuers compete for investor capital. The government, being one of the least likely to default on bond payments, gets the cheapest rate. As the risk to the product increases, the cost of interest paid to bondholders also increases. This includes bonds that are used to fund mortgages.
The yield on 5-year GC bonds directly influences the cost of 5-year fixed rate mortgages. As it increases, mortgage borrowers who enter into a contract will also pay more. Borrowers will also pay less if rates fall at the time of borrowing. This is how inflation programs like quantitative easing (QE) work. The central bank drives down bond yields to stimulate things like mortgage borrowing.
5-year Canadian government bonds hit their highest level since 2018
The Government of Canada’s recent 5-year decision is highly unusual to say the least, but not unexpected. Over the past five days, the yield has increased by 38.04 basis points. Remember, a full rate hike is 25 basis points, so that’s huge for just five days.
Government of Canada 5-Year Bond Yield
The percentage yield of the 5-year Government of Canada bond.
Source: Bank of Canada; Live better.
Year-on-year growth from the near-record low came in at 94.44 basis points, a strong increase. The 5-year Government of Canada bond hasn’t seen such strong returns since 2018, when the overnight rate was more than 3x higher at 1.75%. These bonds, along with fixed-rate mortgages, rose in line with rising expectations. The increase also highlights how far the Bank of Canada (BoC) is lagging the overnight rate curve.
It is important to remember that this segment only influences 5-year fixed rate mortgages. As these rose, borrowers flocked to much cheaper variable rate mortgages. Variable rate mortgages are based on the Bank of Canada’s overnight lending rate, which has lagged, creating a significant spread in mortgage financing costs. Now that rates are finally set to climb for 5-year and variable-rate products, the end of cheap money for buying a home is near.