Thursday, June 02, 2011

Mortgage Renewal Gap

Blogger VHB used to post the so-called "renewal gap", the difference between current mortgage rates and rates "N" years ago, where "N" is the mortgage term. So here it is, updated to May 31, 2011:

Note the 3 and 5 year rates are still at negative gap, meaning that homeowners renewing their mortgages today can receive lower monthly payments, and this has been the case for just over two years now.

Why is the renewal gap important? The gap indicates how much financial relief current homeowners can receive when they renew. As we can see, until the end of 2008, the renewal gap was positive. Since then the gap has been negative for the past few years this means that cohorts of mortgage holders have been receiving relief in the form of lower monthly payments for close to 3 years now and counting.

With some consensus that rates may start edging up as the economy improves and employment reaches towards full capacity, it is worth looking at what could happen to the renewal gap in years ahead. To help with picturing this, I have extrapolated mortgage rates at a high and low end: at the low end assuming "flat" rates for the next 3 years, at the high end assuming a linear extrapolation to the "max" mortgage rate seen in the past 10 years in mid-2014, as shown below:

So the scenarios play out as follows. First the "flat":
  • 1 year renewal gap stays around zero, as we would expect
  • 3 year renewal gap approaches and stays at zero by early 2012
  • 5 year renewal gap stays negative until early 2014
And "max":
  • 1 year renewal gap moves up to and remains at 1% starting the second half of 2011
  • 3 year renewal gap shoots positive by early 2012 and trends even higher until 2014
  • 5 year renewal gap stays slightly negative but "shoots" up positive in early 2014
There are other scenarios, of course, but if one believes the Bank of Canada's statement, that the recovery will be "sluggish" in the coming years, I have chosen a "sluggish" return to full capacity. Of course if the elusive bond vigilantes rear their heads, all bets are off.


Traciatim said...

Looks good to me, my 5 year renewal is coming up in early 2012. Last term I should have gone variable. I wonder if I should still switch to variable like i had planned with rates seemingly rising in the foreseeable future.

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