How to tell if mortgage rates will go up or down

This post was originally published on March 1, 2021, and was updated on August 9, 2023.

How banks set mortgage rates (the cost of lending)

At their core, mortgage providers are retailers. They offer a service that they sell for more than it costs. Instead of “buying” a mortgage, you’ll pay a given interest rate for the service over time, which has to account for a lender’s costs, plus any profit it plans to make.

The main cost your bank needs to account for is the “funding cost”, which is the cost of borrowing the money that it will lend to you (yes, that’s generally how it works). Even if, hypothetically, the bank funded your mortgage with cash it had on hand, that money will be tied up in your mortgage instead of some other investment. In that case, the funding cost is an opportunity cost, meaning it “lost” that amount by investing in you and not elsewhere.

On top of the funding cost, mortgage providers need to earn enough to cover operating costs: staff, real estate, dividends to shareholders, etc. They also need to make a certain amount of profit, which has to be enough to account for the risk that some borrowers will default on their mortgages.

Naturally, these costs are variable and change over time. To understand why that is, you’ll need to look at the wider economy.

Economic conditions (here and overseas)

Credit is like many other commodities in that it is also subject to supply and demand. When everyone wants to borrow money, the cost of credit is pushed up, increasing rates. When no one wants to borrow money, the cost of borrowing becomes cheaper. Most of the variation in demand for credit comes from commercial borrowers.

Generally speaking, when the economy is good, more businesses want to borrow money to expand their enterprises, so demand for finance increases and interest rates rise. Conversely, when the economy is performing poorly, demand for finance decreases, which sees interest rates drop.

The global economy also matters, especially that of the United States. The global economy is highly interconnected, and many Canadian banks borrow money from international sources, especially US banks. This sort of relationship exists in most countries, although the details may change. Because of this, economic conditions overseas can directly affect the cost of borrowing at home, and vice versa.

For example, when several regional US banks failed this past March, it caused Canadian bond yields to drop, as investors everywhere became concerned about the stability of the global financial system. As well, rate direction from the US Federal Reserve – the American counterpart to the Bank of Canada – strongly influences investor risk appetite north of the border, and is also taken into consideration by our own central bank in their monetary policy approach.

Also read: Could a banking crisis happen in Canada?

The Bank of Canada’s impact on mortgage rates

One of the most important influences on mortgage rates is the Bank of Canada’s interest rate. Also referred to as the Overnight Lending Rate or key benchmark rate, a change to the Bank of Canada’s rate generally results in an equal adjustment to the Prime rate in Canada and, by extension, that of mortgage providers. This is because the Bank of Canada is a reserve bank, backed by the federal government.

Unlike the retail banks, the Bank of Canada tends to change rates proactively, rather than reactively. If there’s an economic downturn coming, the Bank of Canada will often cut rates early on, much as it did at the beginning of the COVID-19 pandemic. Cutting rates makes it cheaper to borrow money, which stimulates economic activity. Conversely, the Bank will increase interest rates if inflation is getting too high, for the opposite reason, just as it did throughout 2022 to combat historically high inflation rates.

The Canadian consumer price index hit a 40-year high of 8.1% in June 2022, but has since lowered to 2.8% a year later, due to the BoC’s rate hiking efforts.

Variation between banks

Some rate variation between lenders is natural, as each bank is comfortable with different exposure to risk, has different overhead costs (especially digital-only lenders), as well as different marketing campaigns. As such, it’s important to shop around when you’re looking for a mortgage rate. You can do that by comparing mortgage rates with Ratehub.ca.

Broadly speaking, to remain competitive, most lenders will follow the general trends of the market. There are times, though, that will see the banks move in an unexpected direction. For example, the Bank of Canada cut its rate to 0.25% in the early days of the COVID-19 pandemic. While banks did drop their rates as well, they soon increased mortgage rates again. This was because the pandemic, alongside an economic downturn, also introduced extreme instability in the global economy, so many banks increased mortgage rates to account for the additional risk.

This is a good example of how an unexpected event can ruin even the best predictions of the future, which is explained by the Black Swan Theory…

The Black Swan Theory (the massive impact of rare events)

Created by Nassim Nicholas Taleb, a Lebanese-American mathematician and philosopher, the Black Swan Theory describes the extreme impact of unpredictable events. The original metaphor is about the long-term assumption that “all swans are white,” leading to the ancient Latin expression of a “Black Swan”, being something that didn’t exist. This was proven wrong by a single observation of the existence of black swans in Western Australia in the late 1600’s. In a single moment, an entire system of thought was turned upside down.

“Black Swan Events” like September 11, the Global Financial Crisis and COVID-19 are similarly unprecedented, unpredictable and cause massive social and financial disruption. You can read more about the theory on Wikipedia, but the important takeaway is that these events happen, and there’s really no way that we can predict them, or what their short- and long-term impacts will be on markets and interest rates. So, when making decisions based on whether mortgage rates will go up or down, be careful not to be too confident.

Your impact on mortgage rates

Of course, market rates are only one part of calculating the mortgage rate that you can personally receive from a lender. A much more significant impact comes from your personal circumstances. Factors including (but not limited to) your credit score, down payment, income and existing debt repayments can all make a difference to the rate that you’ll eventually be offered.

So, will mortgage rates go up or down?

The only sure-fire way to know if rates will go up or down is to wait and see. Prediction is a fool’s game in many ways, even when we’re not exposed to the risk of Black Swan events (which we always are). However, whether rates are currently going up or down at a particular moment in time can sometimes be predicted based on a few indicators:

• If the economy is improving, interest rates should go up
• If the economy is slowing, interest rates may go down
• A large economic downturn can mean very low rates, as the Bank of Canada tries to stimulate the economy
• Mortgage providers don’t always cut mortgage rates along with the Bank of Canada. Instability in the market can mean they need to decrease their risk exposure by increasing their margins
• Your personal circumstances will affect your mortgage rates more than anything
• Black Swan events can throw all of our predictions out the window
  
  

Where we think rates might be headed

Even for our industry experts at Ratehub.ca, there is no way to predict whether rates will go up or down with complete certainty. That said, we do have some ideas about what might happen in the remainder of 2023 and throughout 2024.

Following a historic 10 rate increases between March 2022 and July 2023, the Bank has signalled that it could now switch to a rate-hold stance for the near future – as long as economic factors play out as it expects.

In its latest rate announcement on July 12, the BoC emphasized that while it remains concerned about the pace of inflation growth, its future rate decisions will be “data dependent” meaning any economic reports that come out prior to its September 6th announcement could move the dial either way.

“Governing Council will continue to assess the dynamics of core inflation and the outlook for CPI inflation. In particular, we will be evaluating whether the evolution of excess demand, inflation expectations, wage growth and corporate pricing behaviour are consistent with achieving the 2% inflation target. The Bank remains resolute in its commitment to restoring price stability for Canadians,” reads the announcement.

The Bank also released a new forecast for CPI, calling for it to hit 3% by the end of this year before gradually declining to 2% by mid-2025. That’s six months slower than the central bank’s initial projection, given inflation has remained stickier than initially expected.

As the Bank puts it, “Governing Council remains concerned that progress towards the 2% target could stall, jeopardizing the return to price stability.” 

A recent survey conducted by the Bank of Canada of economists also found these experts anticipate rate hikes are largely finished for the time being, with the median anticipating the Bank’s Overnight Lending Rate will hold at 5% until the end of 2023, and be lowered by March 2024.

Fixed mortgage rates, meanwhile, have steadily increased in recent months as bond yields have strongly surged, based on economist concerns of an impending recession; the five-year government yield has soared by a whopping 102 basis points over the past year,  up to the 3.8% range. 

Speaking to an expert

A good understanding of how interest rates are set and what factors can increase or decrease them is a good start to understanding the current interest rate environment. However, whether mortgage rates will go up or down is still an extremely difficult question to answer.

If you’re trying to answer this question in preparation for getting a mortgage, it’s probably a good idea to speak to a mortgage broker. Mortgage brokers are experts in mortgage rates and providers, and can advise you on the best course of action for your individual situation. You can arrange a consultation with a mortgage broker at no cost or obligation to you, which is a big plus. 

The bottom line

By better understanding the agents of change in the economy and factoring them in, you may be able to get a better idea of the direction they’re headed. Of course, nothing is certain in this world, least of all mortgage rates! So be careful, and don’t be too confident in your predictions.

Also read:

• Mortgages and inflation: How do they affect each other?
• How does the rising stress test impact mortgage affordability?
• Should you borrow for your down payment?
• The dos and don’ts of getting a mortgage pre-approval
• Should I buy a house in a recession?
• The trigger rate: Everything you need to know