Betting on bad

Now what?

Most of the Bay Street bank guys say things are ducky, the CB did the right thing yesterday and it’s smooth sailing ahead. Even if you-know-who gets into the White House. Or doesn’t. Don’t care.

Others are having a cow.

“When Central Banks enter the cutting cycle following a sharp rate run-up to break inflation the idea is constant 25 bps cuts to show no panic about economic decline,” says irascible mortgage broker-blogger dude Ron Butler. “50 BPS means bad news is coming, an economic slowdown, rising unemployment and all the pain that comes with it.

“What great economic news have we had? New Construction Slowdown. Slow RE sales. Quiet manufacturing slowdown. Rising business insolvencies. Rising personal bankruptcies. Toronto condo crash. No New energy projects.”

Was the mega-cut yesterday a decent, solid, forward-looking move to ensure economic health? Or are the central bankers in panic mode because the wheels are coming off? Did Chrystia just text Tiff and say:

‘SUP T? PM > 50 BEEPS. C U DO IT!’

.

So the policy rate is now 3.75%. The prime at the chartered banks is 5.95%. Five-year fixed-rate mortgages at major lenders are available at around 4.4% (less if TNL@TB likes you). Variable-rate five-year home loans are 5.3%.

The Bank of Canada says about 12% of borrowers were going for variable loans even before the latest cut – up from just 4% at the end of 2023. That share is expected to rise quickly to about a third now that interest rates have been hacked four times.

In fact our central bank, BMO Economics points out, is currently the most macho in the world. “[This is] the fourth consecutive cut for a total of 125 bps of reductions. That is by far the most aggressive set of cuts among the major central banks globally (no other G10 bank has gone more than 75 bps, the Fed 50 bps, and the RBA [Australia] hasn’t even begun to cut).”

Should you borrow fixed or variable? With the former come years of certainty as to what monthly payments will be and a guarantee you’ll be insulated from any rate increases. But with the latter you can ride on the back of further interest rate cuts, seeing interest charges reduced and equity built faster. However, if rates rise (as they did for the last two years) you could be pooched.

Is there another big cut coming?

“If the BoC wanted to say this was an unusual one-and-done upsizing, then they could have easily done so,” argues Scotia eocnomist Derek Holt. “The fact they did not, and chose instead to leave the door open, was a dovish signal that sets a low bar for data to guide another large cut.”

But others dismiss that possibility – or the argument yesterday’s action was a pre-emptive emergency strike. “There is still a risk of another 50 bp step at some point,” says BMO. “For now, we will maintain our call of a series of five more 25 bp trims, taking the overnight rate to 2.5% by next June, at the low end of the Bank’s 2.25%-to-3.25% range for neutral.’

The consensus seems to be that we can expect at least 1% more to be lopped off. As mentioned yesterday, that gets us to the ‘neutral’ rate – the point at which interest rates neither tickle nor depress the economy. Goldilocks. Just right.

If so, a variable-rate mortgage should be dipping to (almost) 4% by the summer. But fixed-rate loans will also be declining, maybe not as much – but enough to suggest they’ll still be lower than VRMs. Anyone going variable is betting that the Bank of Canada doesn’t stop at 2.75% but continues hacking away until then policy rate is below 2%. Maybe 1%, like back in the good ‘ol days of the pandemic (when we actually fell to ¼%).

But for that to happen, Butler would have to be correct. A new economic disaster would have to unfold, or a Trumpian global trade war decimate our export revenues or some other job-eating, corporate-killing, tax-sucking event tax place.

Otherwise, the math seems clear. Go fixed.

About the picture: “This is Monty,” writes Kevin. “His apparent lack of expression bears no resemblance to his exuberance.  3 yrs old 100 lbs of Mastiff/Bullmastiff/Boxer cross. THE most loving and meek critter to ever grace our house. He can out-sleep anything – especially on a couch. Thank you for continuing your blog despite temptations to do otherwise.”

To be in touch or send a picture of your beast, email to ‘garth@garth.ca’.

Source: https://www.greaterfool.ca/2024/10/24/betting-on-bad/