Understanding mortgages can feel like a daunting task. Variable mortgage rates seem to with every policy rate announcement from the Bank of Canada, while fixed rates remain stubbornly high.
You might wonder, are these different types of mortgages connected? Why do mortgage rates change? And what’s behind the difference between fixed and variable Canadian mortgage rates?
There are many factors that influence the health of the economy; unemployment, inflation, consumer confidence and the housing market, just to name a few. In turn, they impacted mortgage rates, both fixed and variable.
Let’s dig deeper at the factors that influence fixed and variable mortgage rates.
In this article:
The basics: why mortgage rates change
In many ways, mortgages are just like any other product you purchase. Businesses need to make a profit, and lenders are no different. For them to earn money, the interest you pay on your mortgage (their “price”) must be higher than what it costs them to borrow the funds they lend to you (their “funding cost”).
The largest chunk of your mortgage interest rate comes from this funding cost. It’s essentially what the lender pays to secure the money they loan out.
On top of that, your interest rate also reflects the lender's operating costs and an extra amount to account for the possibility of you not repaying the loan (known as risk pricing). But make no mistake—funding costs carry the biggest weight in determining your overall interest rate.
Now, the question is, what influences a lender’s funding cost?
What determines fixed mortgage rates?
Fixed mortgage rates are closely tied to the Government of Canada bond yields. When these bond yields rise or fall, fixed mortgage rates typically tend to move in the same direction.
But what does this mean?
How bond yields work in shaping fixed mortgages
What are bond yields? Simply put, yields look at what you will make in the future.
Government bonds are considered safe investments, and their prices are influenced by supply, demand, and economic conditions. Bond yields — which are the returns investors earn on these bonds — have an inverse relationship with bond prices:
- When bond prices fall, bond yields rise, and fixed mortgage rates tend to increase.
- When bond prices rise, bond yields fall, and fixed mortgage rates tend to decrease.
The behavior of bond prices is tied to investor confidence in the broader economy. For instance:
- During economic growth, when the stock market is strong, investors lean toward equities for higher returns. This reduces demand for bonds, pushing bond prices lower and yields higher, which can raise fixed mortgage rates.
- During uncertainty or downturns, bonds become a safer investment option. Increased demand drives bond prices up, dropping yields and, consequently, fixed mortgage rates.
Bond yield: the return an investor will receive by holding a bond to maturity (completion).
5-year bond yield vs. 5-year fixed rate
For example, if the Government of Canada’s five-year bond yield increases, the five-year fixed mortgage rate would normally increase as well. There are some periods where they may not move directly in sync with each other, but this is the general trend.
Related: Can you negotiate your mortgage?
How does the stock market performance impact mortgage rates?
Fixed rates are directly tied to bond market trends, and the stock market often influences this dynamic. Stocks and bonds usually move in opposite directions:
- When stocks thrive, bond demand falls, dragging down prices while lifting yields and fixed mortgage rates.
- When stocks decline, bonds become more attractive, raising prices, lowering yields, and reducing fixed mortgage rates.
Economic conditions tie these forces together. Times of growth boost stock performance and bond yields, driving fixed rates higher. But in slowdowns, weakened stocks shift investors toward bonds, driving down yields and fixed rates.
Learn more: Should you buy a house right now or wait until interest rates come back down?
Factors that affect variable mortgage rates
Variable mortgages operate differently. They’re tied to your mortgage lender’s prime rate, which is influenced by the Bank of Canada’s overnight lending rate.
Here’s how it works:
Overnight rate: This is the rate at which banks lend money to one another on a short-term basis. The Bank of Canada (BoC) adjusts this rate periodically to manage inflation and steer economic growth.
Prime rate: When the Bank of Canada raises or lowers the overnight rate, major banks typically adjust their prime rate accordingly. Lenders base their variable rates on the prime rate, expressed as “Prime ± X%.”
For example, if your variable mortgage rate is Prime - 0.50% and the prime rate is currently 6.00%, your interest rate is 5.50%. If the BoC raises the overnight rate by 0.25%, your prime rate would likely increase to 6.25%, making your new mortgage rate 5.75%.
Read more: Is the double rate cut enough by the Bank of Canada to revive the housing market?
How much does a change in prime rate impact your mortgage?
Variable rates fluctuate over the course of your term, which means your monthly payments can change. A helpful way to forecast your loan costs is by understanding how much a prime rate increase will impact you:
- A 0.25% increase in the prime rate typically raises payments by about $13 per month for every $100,000 borrowed.
- A larger increase, like 1.00%, would add $52 per month for every $100,000 of your loan.
This estimate is based on standard mortgage calculations with a 25-year amortization period and assumes the full interest rate change impacts your payment. It’s a quick way to gauge the effect of modest rate adjustments on your monthly costs. These figures illustrate how sensitive variable rates are to movements in the prime rate.
Related: What type of mortgage and term should you get?
Understanding the drivers behind mortgage rates, from bond yields to stock market performance to the Bank of Canada’s overnight rate, can help you feel more in control of your mortgage decision. While economic trends may seem distant or complex, they impact rates in practical ways that directly affect your payments.
If you’re still unsure, working with a mortgage broker or advisor allows you to compare options and find the best fit for your situation. With a bit of planning and the right guidance, you can secure a mortgage that supports your financial goals, regardless of where rates are heading.
Read next: Ask the expert: How Trump’s tariffs will affect your Canadian mortgage
Compare Mortgage Rates
Engaging a mortgage broker before renewing can help you make a better decision. Mortgage brokers are an excellent source of information for deals specific to your area, contract terms, and their services require no out-of-pocket fees if you are well qualified.
Here at RATESDOTCA, we compare rates from the best Canadian mortgage brokers, major banks and dozens of smaller competitors.
