WEBVTT 1 00:00:08.460 --> 00:00:11.700 Inquiries about where Canadian mortgage rates are going have increased in 2 00:00:11.700 --> 00:00:14.790 frequency as of late. To help illustrate the answer, 3 00:00:15.030 --> 00:00:17.820 we prepared the histogram of 5-year Canada bond yields. 4 00:00:18.210 --> 00:00:21.060 It divides monthly 5-year Canada yields since 1991, 5 00:00:21.240 --> 00:00:24.390 when 2% inflation targeting was adopted by the Bank of Canada, 6 00:00:24.540 --> 00:00:25.920 into 1% observation brackets. 7 00:00:27.270 --> 00:00:31.890 We see that yields are between 3% and 4% for 55 months in the period, 8 00:00:31.890 --> 00:00:35.220 with the clear winner being 1% to 2% yields for 79 months. 9 00:00:36.180 --> 00:00:38.580 That's why everyone is shocked at the current mortgage rates. 10 00:00:39.000 --> 00:00:43.320 Mortgage rates are typically 1% to 2% higher than 5-year Canada Bond yields. 11 00:00:43.800 --> 00:00:47.310 Banks issue mortgages at the lower end of that range when they're competing for 12 00:00:47.310 --> 00:00:48.000 mortgages, 13 00:00:48.000 --> 00:00:50.910 and the opposite is true when the mortgage market is less competitive. 14 00:00:51.780 --> 00:00:55.530 For example, the current 5-year Canada bond yield is 3.8%, 15 00:00:55.830 --> 00:00:59.160 while the best Canadian major bank mortgage rate is 5.2%. 16 00:00:59.820 --> 00:01:04.710 That is 1.4% above a 5-year Canada bond yield, midway between the 1% to 17 00:01:04.710 --> 00:01:08.460 2% extra lending spread banks normally charge on their mortgage loans. 18 00:01:09.390 --> 00:01:10.530 Looking back at the chart, 19 00:01:10.770 --> 00:01:14.010 it is no wonder the Canadian homeowners and their mortgage brokers thought that 20 00:01:14.010 --> 00:01:17.820 "normal" for mortgage rates was much lower than the current rates over 5%. 21 00:01:18.780 --> 00:01:22.710 Those of us old enough remember when a 5% mortgage rate was a dream come true. 22 00:01:23.640 --> 00:01:26.430 After the 1.8% low mortgage rate of the pandemic, 23 00:01:26.700 --> 00:01:30.720 one can't blame people for expecting an imminent fall from unsustainably high 24 00:01:30.750 --> 00:01:35.550 interest rate levels. The human brain, as psychological studies show, 25 00:01:35.790 --> 00:01:37.890 falls prey to the phenomenon of recency, 26 00:01:38.100 --> 00:01:41.520 where more recent experiences dominate those farther in the past. 27 00:01:42.180 --> 00:01:45.150 We believe central bankers and homeowners suffer from the syndrome. 28 00:01:45.870 --> 00:01:47.010 Interest rates were low, 29 00:01:47.070 --> 00:01:50.910 so they're going to stay low (processes the unthinking and very illogical human 30 00:01:50.910 --> 00:01:53.700 brain) except that is anything but logical. 31 00:01:54.210 --> 00:01:57.390 But what if the recent past interest rates was the exception, 32 00:01:57.450 --> 00:02:00.720 not the rule? We now take a look at the twenty years from 33 00:02:00.720 --> 00:02:04.440 1991 to 2011, and it seems normally distributed. 34 00:02:05.310 --> 00:02:08.790 Yields from 4% to 6% are the normal ones clustered around the mean, 35 00:02:09.210 --> 00:02:13.140 following what one would expect from a random normal statistical distribution. 36 00:02:14.040 --> 00:02:18.330 We note that inflation has averaged 2% from 1991 to 2019, 37 00:02:18.810 --> 00:02:22.620 so given that inflation is far above that at present and that the Bank of Canada 38 00:02:22.620 --> 00:02:24.540 wants to get to its target of 2%, 39 00:02:24.990 --> 00:02:29.940 the present 5-year Canada yield of 3.8% cannot really be considered abnormal in 40 00:02:29.940 --> 00:02:33.120 the context of this period. On the other hand, 41 00:02:33.360 --> 00:02:37.350 if we look at the period from 2011 to present, it's anything but normal. 42 00:02:38.220 --> 00:02:43.050 While 4% to 5% Canada yields were the most frequent in the 1991 to 2011 period, 43 00:02:43.050 --> 00:02:46.020 1% to 2% was the most frequent monthly yield from 44 00:02:46.020 --> 00:02:50.760 2011 to present. There were no months at the 4% to 5% range over the 45 00:02:50.760 --> 00:02:55.080 entire 12-year period. So what does that mean for future interest rates? 46 00:02:55.620 --> 00:02:59.980 The consensus is expecting an imminent return to 2% inflation since that is what 47 00:02:59.980 --> 00:03:03.310 the average investor is used to and wants. Besides, 48 00:03:03.460 --> 00:03:07.270 that's the stated goal of central bankers. They control interest rates, 49 00:03:07.450 --> 00:03:08.560 so could they be wrong?