31 Jul

Too Much Tightening?


Posted by: John Dunford

One big bank is sounding the alarm about recent and future mortgage policies.

“Let’s be clear. A soft landing that eases Ontario and BC house prices and mortgage growth would be welcome news for macroeconomic stability,” CIBC Chief Economist Avery Shenfeld said in his latest report. “But nobody can be too sure of what kind of landing we’re now in. Better to carefully phase in further changes in rates and regulatory policy to avoid piling on to a market that might be facing a less-than-soft retreat.”

It seems policymakers are embracing a more aggressive approach when it comes to mortgage and rate policies, however.

The Bank of Canada recently increased its benchmark overnight rate to ¾% and is expected to implement an additional rate hike later this year.

OSFI, meanwhile, is planning to tweak lending rules in such a way to make qualifying more difficult for many Canadians.

Both of these followed aggressive mortgage changes last year both nationally and provincially – in both Ontario and Vancouver.

“Let’s count the ways, for example, that various forces are working to contain what had been an overly heated housing market. Rising mortgage rates don’t look all that threatening just yet,” Shenfield said. “But OSFI is discussing a step that will bring uninsured buyers (those with properties over $1 million, or with 20% or more equity) into a much tighter regime that would effectively tack on 2% to the rate used to calculate how much debt they can get.

“Smaller mortgages reduce all buyers’ ability to bid up prices. Markets are still digesting Ontario government moves aimed at foreign buyers. And even a hint that demand could be softening has had a psychological effect in calming the bidding frenzy in that province.”

Shenfield suggests the combination of government policy and the market’s response could result in a piling on of stress on the economy.

“That’s a question that needs looking at in Canada, where monetary policy, the foreign exchange market’s response, and regulatory changes could produce too much of a slowing in areas of the economy that had been driving growth,” he said.

25 Jul

Experts Split on Interest Rate Rises


Posted by: John Dunford

Further interest rate rises may or may not be on the cards in 2017 with no expert consensus as yet.

Following the increase on July 12, Bank of Canada governor Stephen Poloz said that further rates would depend on data. The latest retail figures, released by StatsCan last week along with rising inflation have some calling for another rate rise before 2017 ends.

TD Securities’ Fred Demers told Bloomberg that an interest rate hike in October “is a very likely scenario,”

while Benjamin Reitzes of BMO Capital Markets added: “October is still a very reasonable call for the bank.”

CIBC economist Avery Shenfeld is less certain due to the current rise of the loonie, even without support from commodities. He says that the BoC should make clear its policy if the Canadian dollar keeps rising.

“Better for the Bank of Canada to send a signal to markets soon that rate hikes could be deferred if the Canadian dollar extends its run,” Shenfeld wrote in a new report. He added that Governor Poloz could give that assurance following September’s expected hold-steady on interest rates.

Shenfeld also expresses concern about the impact of policy on the housing market, which is already slowing.

“A soft landing that eases Ontario and BC house prices and mortgage growth would be welcome news for macroeconomic stability,” Shefeld says. “But nobody can be too sure of what kind of landing we’re now in.

Better to carefully phase in further changes in rates and regulatory policy to avoid piling on to a market that might be facing a less-than-soft retreat.”

13 Jul

Bank of Canada Turns the Tide


Posted by: John Dunford

For the first time in seven years, the Bank of Canada announced today that it was hiking its key overnight rate by a quarter percentage point (25 basis points) bringing it to 0.75 percent as the economy has staged a broadly based economic expansion this year. In a break from tradition, the Bank has taken this action even though inflation remains well below its target rate of 2 percent. Indeed, inflation has hit its lowest level since 1999. The consumer price index (CPI), released in late June, rose only 1.3 percent in May from a year ago, down from an annual pace of 1.6 percent in April. Both Governor Poloz and Senior Deputy Governor Wilkins have emphasized that the Bank must begin to hike rates pre-emptively due to the lagged effect of monetary tightening.

Measures of annual core inflation, a key indicator tracked by the Bank of Canada, which excludes volatile components such as food and energy, fell to its lowest in almost two decades. The average of the central bank’s three core measures declined to 1.3 percent, its lowest level since March 1999. The Bank has recently played down sluggish inflation numbers, suggesting they reflect the lagged effects of past excess capacity. Incoming inflation figures have been well below the Bank’s forecasts and will likely remain low for some time as oil prices are wobbling downward and wage inflation is a mere 1.3 percent–just keeping up with core inflation.

Last Friday’s continued strong employment report for June cinched the rate-hike. Employment rose a hefty 45,300, lifting the 12-month gain to a whopping 350,000 and trimming the jobless rate to match the cycle low of 6.5%. What’s more, total hours worked surged in the second quarter at the fastest rate since 2003. GDP climbed an impressive 3.3% year-over-year in April, while record levels of exports and imports suggest activity stayed on track in May, and further record highs for auto sales suggest consumers kept right on spending in June. Spending strength is yet another sign that after two years of lagging behind, Canada’s overall growth rate has come bouncing back in the past year to surpass the U.S. pace. The Bank now expects the output gap to close around year end.

Markets have been expecting this move for some time, as monetary policymakers have publicly stated that the 2015 interest-rate cuts appear to have done their job. Governor Stephen Poloz has said that the Canadian economy enjoyed “surprisingly” strong growth in the first three months of this year and that he expects the growth pace to remain above potential (estimated at 1-3/4 percent), setting the stage for this rate hike. In response, Canadian bond yields have moved higher, the Canadian dollar has surged anew, and the big Canadian banks raised mortgage rates by roughly 20 basis points last week in anticipation of this move. The 5-year Government of Canada bond yield has surged nearly 50 basis points in the past month. Indeed, 10-year government yields are up to roughly 1.9 percent, their highest yield in more than two years. The Canadian dollar surged to above 77.5 cents, the strongest level in 10 months, up more than 6 percent from the lows in early May. Stalling oil prices may reverse some of the loonie’s recent gain.

The big banks will also raise their prime rates, driving up the cost of variable rate mortgages, other loans and lines of credit tied to the benchmark rate. While the banks shaved their response to the interest rate cuts to less than the 25 basis points decline when monetary policy was easing, it is likely now that banks will adjust lending rates to close to the full 25 basis point increase. This asymmetric response is consistent with the desire of regulators to slow the growth in household debt.

Housing is one crucial component of the Canadian economy, and it has slowed meaningfully at the national level, in line with the central bank’s expectations. Prices and sales have declined in the Greater Toronto Area and surrounding municipalities since the Ontario Fair Housing Plan announcement in late April. However, housing activity has gained momentum in Montreal and Ottawa, while Alberta stabilizes and Vancouver posted a modest bounceback from the swoon following its August 2016 imposition of a foreign buyers’ tax. The underlying strength in many housing markets is the reason why policymakers are proposing new rules to tighten mortgage lending. This time OSFI–the regulator of financial institutions–is proposing that banks stress test non-insured borrowers at two percentage points above the contract rate. This despite the fact that non-insured borrowers are putting at least 20 percent down on their home purchase. A small BoC rate hike would reinforce the multi-faceted steps to calm the broader housing market.

The Bank has repeatedly stated that “macroprudential and other policy measures have contributed to more sustainable debt profiles,” even though household debt-to-income levels have hit a record high (see chart).

Uncertainties, of course, persist–particularly on the trade side as NAFTA is renegotiated in fewer than 90 days. The U.S. has already imposed duties on softwood lumber, and President Trump’s rhetoric remains hostile, threatening U.S. import duties on steel and other products. These uncertainties notwithstanding, I expect another Bank of Canada rate hike in the fourth quarter. The Federal Reserve will also likely increase rates in Q4. Look for a slow crawl upward in interest rates from both central banks in 2018.

7 Jul

Are You Ready for the Next Round of Rate Rises?

Latest News

Posted by: John Dunford

Fears of rising mortgage rates are about to translate into reality, as the Bank of Canada (BoC) appears set to raise its overnight lending rate by at least 25 basis points during its July 12 meeting, a likelihood that has sent long-term bond yields through the roof (mortgage rates are partly based on the government’s five-year bonds).

“Nothing is inevitable, but I believe we are on the cusp [of rate rises] given the rise back up in Canadian bond yields over the last few weeks,” said Douglas Porter, chief economist of the Bank of Montreal (BMO). The five-year Canada bond had fallen to just over 0.9% in mid-May, but by Friday was closing in at 1.4%.

Some financial institutions have already begun to quietly raise their discretionary rates over the past week. This is a potentially devastating situation for Canadian consumers grappling with near-record levels of debt.

Economists have been forecasting a rise in rates for a number of years, and it’s been enough of a concern that Ottawa modified the rules for government-backed mortgages to require consumers to qualify based on making potential payments tied to the higher five-year posted rate, which now sits at 4.64%. This is a cushion designed to deal with household debt, which was 166.9% of disposable income in the first quarter of 2017, after hitting a record in 2016.

While long-term rates are expected to rise as early as next week, consumers with variable-rate mortgages tied to the prime lending rate will also immediately feel the sting of any increase from the BoC. Approximately 25% of Canadians still have a floating rate product, according to Will Dunning, chief economist at Mortgage Professionals Canada.

“I do think rates may have already risen as much as they can, given the economic conditions we already have,” Dunning said. “I just don’t think a large increase in rates can be sustained. I also think it takes at least three-quarters of a point [0.7%] before it starts impacting consumers.”

2 Jul

Canada’s GDP Grows for a Sixth Month, Adding to Rate-Hike Pressure


Posted by: John Dunford

Canada’s economy grew for a sixth consecutive month with gains in a majority of industries, underlining the central bank’s view a durable recovery from an oil shock is emerging.

Gross domestic product grew 0.2 percent in April, Statistics Canada said Friday from Ottawa, matching the median forecast in a Bloomberg survey of economists.


  • Fourteen out of 20 sectors grew on the month, led by a 2.7 percent gain in mining and a 1 percent rise in transportation and warehousing
  •  The expansion over the last 12 months of 3.3 percent is the fastest since June 2014
  •  Canada’s booming housing market showed some signs of cooling in April, when Ontario introduced measures to constrain the Toronto market. Residential construction fell for the first timein six monthswith a 0.9 percent decline, and activity by agents and brokers fell 0.6 percent

Big Picture

Canada’s dollar and bond yields jumped this week on comments from Governor Stephen Poloz suggesting he favors raising his 0.5 percent interest rate, with investors betting that could come as early as the central bank’s July 12 meeting. Poloz and his deputies cited gains that are broadening to include more industries and regions, even those most hurt by the fall in crude prices to below $50 a barrel. A Bank of Canada survey of business confidence is due for release later Friday morning, which may further bolster the case for tightening.

Economist Reaction

Jimmy Jean, a strategist in the fixed-income group at Desjardins Capital Markets in Montreal, changed his forecast Friday morning to predict a rate increase in July. “Given the persistence of the messaging, the motives provided for the change in tone, the ongoing strength of the data and the market’s repricing, the logical culmination of recent developments is a decision to begin rolling back the 2015 cuts right away,” he wrote in a research note.

Doug Porter, Bank of Montreal chief economist: The GDP report “maintains a now lengthy run of Canadian data matching or topping expectations, and forecasts for 2017 growth just keep climbing. … There’s nothing here to dissuade the Bank of Canada from looking to start removing some of the stimulus, likely starting just next month.”

CIBC World Markets Chief Economist Avery Shenfeld: Canada’s economy is on pace for annualized growth of about 2.5 percent in the second quarter, “more than enough to justify the recent change in tone from the Bank of Canada.”


Other Details

  • Service-industry production increased 0.3 percent while goods production was flat, Statistics Canada said.
  •  Manufacturing dropped 0.9 percent in April, undoing a 1 percent gain the previous month.
  •  The energy industry showed mixed results, including a 0.8 percent setback in oil and gas extraction after a fire at an upgrader in Alberta in March. Support services for mining and energy companies jumped 11 percent.
  •  Retail trade grew 0.5 percent in April, as did the wholesaling industry.