Homeowners locking in some of the lowest rates in history

Variable rate mortgages… move over. The long-term mortgage is back.

For the past few years, Canadian homeowners shrugged off their traditional preference for security and embraced the cost-saving potential of variable or adjustable-rate mortgages. With a variable rate mortgage, the rate you pay is typically pegged to the bank’s prime rate – which has dropped steadily over the years and now stands at historic lows. The lower the rate goes, the more you can save.

But how low can it go? We’re seeing a turn of the tide now as Canadians conclude that the rate is unlikely to drop much further – making long-term mortgages look very attractive again. And homeowners are developing new enthusiasm for long-term mortgages: for some, the longer the better.

Let’s take a closer look at this change of heart.

The right mortgage, of course, always depends on other factors: including your personal financial situation and your risk tolerance. Your mortgage broker’s job is to help you find the best value while managing risk. While a longer-term mortgage offers the security of knowing exactly what your rate will be for the term chosen, it does carry the risk that – if rates go lower – you will wind up paying more interest than you would have with a variable or adjustable rate mortgage. A variable rate mortgage demonstrates its rewards in an environment in which rates are dropping, but carries the risk that – if rates begin to move upward, you may wish that you had “locked in” a longer-term rate. So both choices theoretically carry some risk.

Homeowners with variable or adjustable-rate mortgages have done particularly well in the past few years – as rates dipped lower and lower. But because mortgage rates have been on a downward trend for so long, it’s easy to forget some of the historical trends. Between 1976 and 1981, for example, interest rates went from a “low” in the 11% range to highs in the 21% range. That was a doubling of rates in a period of only five years. It might seem shocking, but those who locked in at 11% were actually the lucky ones.

It’s a sobering thought. Homeowners who witnessed the mortgage market in those years became a generation of risk-averse buyers, and the preference for fixed-term mortgages dominated borrowing habits for almost twenty years. Then as rates kept up a steady pace downwards, the preference for longer-term mortgages faded. So why are they coming back in fashion?

While no one is predicting any 1981 scenario in mortgage rates in the next few years, you’re unlikely to find many experts who are predicting that rates will continue the long downward trend. There is some sense that we are close to the bottom. And with little downward room for rates, the so-called “risk” of the long-term mortgage is effectively eliminated. After all, you are unlikely to sign a 5-year mortgage today and then watch the rates drop 4% over that time.

Canadian homeowners have an historic opportunity to lock in some of the lowest rates in history. Some homeowners who locked in a very good rate a few years ago are even willing to pay an interest penalty to lock in a new longer-term mortgage at today’s rates.