Mortgage strategies

I’m receiving a lot of questions about whether it is time to lock in mortgages for the long haul. After all, rates aren’t going to stay down forever, are they?

No, they’re not. But they figure to be low for a while yet. It’s difficult to foresee a scenario that would prompt the Bank of Canada to raise them at any time in 2004 and perhaps well into 2005. Even if the U.S. Federal Reserve Board moves its rate up, there is no reason our central bank would automatically follow suit. All such a move by the Fed would do is to further ease the upward pressure on a Canadian dollar that is still too high for the comfort of our exporters.

So I see no rush to lock in mortgages now. In fact, I see more downside than upside. Recently, a six-month convertible mortgage at a major institution like Royal Bank carried an annualized rate of 3.72 per cent. A five-year term cost you 4.77 per cent, more than one percentage point higher. You’d pay slightly less at a smaller institution but the spread will be about the same.

On a $200,000 mortgage, every percentage point costs you about $2,000 in interest every year. I consider that to be a kind of insurance premium, a cost you absorb return for protection against rate hikes over a five-year term.

I do not think that is money well spent, at least for the time being. The risk of a rate increase is low and the premium is too high in relation to it. A better strategy is to put the $2,000 (or whatever your saving is) towards reducing the outstanding principal of the loan.

So stay with the lowest rate you can find. But remember that the way to make this approach work is to use the savings to pay down your principal. Don’t waste the opportunity by blowing the money.