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Tuesday, September 21, 1999
Short-term mortgages 'a better choice'
By
STEPHEN MILES
The Financial Post
Canadian mortgage rates have jumped about a percentage point since the start of the year and though it might seem tempting to go long term before rates head higher still, now is actually the time for risk-averse homebuyers to go short, experts say.
Canada Mortgage and Housing Corp. figures show homeowners have been switching to five-year mortgages in droves. They accounted for more than 80% of all residential mortgage approvals since early 1998, compared with a historical average of about 50%. Fewer than 2% of homebuyers chose a one-year term this year.
No figures are available on mortgage rollovers, but existing homeowners are likely to be opting for longer terms in renewals.
Fears of higher interest rates and inflation are blamed for the growing trend to longer terms. A five-year term is considered solid insurance against the risk of rising and volatile short-term rates.
But analysts say homebuyers are paying a high price for the security and would probably be better off in the long run by sticking with short-term mortgages.
David Rosenberg, senior economist at Nesbitt Burns Inc., says a one-year mortgage is 75 basis points below the five-year rate. For the longer-term deal to be a better alternative between now and 2004, the one-year rate would need to climb one full percentage point and stay above 8% for a prolonged period.
Industry professionals say that is not likely to happen.
"The odds are remote that inflation will rear its ugly head enough to trigger such a dramatic move," Mr. Rosenberg says.
The economist cites historical precedent for taking out a short-term mortgage. Locking in at a five-year rate was never the lowest-cost mortgage alternative of all possible combinations since 1980, but it was the highest-cost strategy for more than half that time.
And only once -- in the late 1980s -- did the cost of renewing a one-year mortgage annually exceed the five-year rate at the start of the period.
Ali Manouchehri, a senior economist at CMHC's market analysis centre, says 85% of the time since 1980, homeowners would have paid less in interest for a one-year closed mortgage, renewing it annually, than they did by opting for a five-year term.
Simply rolling over one-year terms would have saved a typical household with a $200,000 mortgage about $2,000 a year, compared with locking in at a five-year rate. That amount is a high price to pay for the peace of mind of knowing your future house payments.
Despite higher mortgage rates, housing starts in Canada remained essentially unchanged in August at 147,400 units, from the revised level of 147,000 in July, according to CHMC.
"Activity should stay close to this rate for the rest of the year given recent trends in employment growth, mortgage rates and migration," said Philippe Le Goff, CHMC senior economist.
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