William Wright Report Q2 2023: Interest Rate Volatility Remains, but is the Worst Behind Us?

William Wright Report Q2 2023: Interest Rate Volatility Remains, but is the Worst Behind Us?

August 9, 2023

The interest rate roller coaster continues its generational ascent after the Bank of Canada surprised global markets in June with a 25-basis point (0.25%) hike to its Overnight Rate. This was followed by another equal raise in July. After a pause in January, many market experts believed we had reached the end of the current tightening cycle, but the Bank is resolute in bringing inflation down to its 2% target regardless of the costs, and there’s a high probability the Bank is intentionally “over-shooting” to leave room for mistakes. Whether we agree with their recent moves or not is a separate point, but one thing is clear: interest rate-sensitive assets such as commercial real estate are taking the brunt of it head-on.

With the Bank of Canada’s Overnight Rate currently sitting at 5% (the highest in over 20 years), this puts the Canadian lenders’ Prime lending rate at 7.2%, also the highest in decades. For borrowers with variable rate mortgages, this represents an almost tripling of interest rates since the Bank of Canada starting hiking in 2022. The repercussions of this are the required cash flow to service variable mortgages has risen dramatically leading to a much more restrictive lending environment for all borrowers.

For borrowers looking at fixed rate mortgage, Government of Canada Bond yields (most longer-term mortgages are tied to these) have also increased substantially over the past two years and we’re currently witnessing unusual levels of sustained volatility through daily swings of up to 10-20 basis points (0.10% to 0.20%) across the yield curve. For context the 5-Year Bond yield touched 0.72% on August 1st, 2021, and today is flirting with 4.00%!

During these times of volatility, lenders compound these increases with higher risk premiums or “spreads” to ensure sufficient buffer in order to avoid potential losses, which magnifies the impact on borrowers.

While the past 18 months have reminded us that it is almost impossible to predict the timing of major market shifts, for now, the prevailing sentiment is we’re nearing the end of the tightening cycle. We, along with numerous high-profile economists we follow, are hopeful that interest rates are nearing their peak with a potential retrenchment sometime in the next 6-12 months.

Written by Jon Switzer, Managing Partner and Commercial Mortgage Broker at Impact Commercial

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This communication is not intended to cause or induce breach of an existing agency agreement. E&OE: All information contained herein is from sources deemed reliable, and have no reason to doubt its accuracy; however, no guarantee or responsibility is assumed thereof, and it shall not form any part of future contracts. Properties are submitted subject to errors and omissions and all information should be carefully verified. All measurements quoted herein are approximate.