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July 29, 2010

There has been a lot of talk again in the news lately about the value of a variable rate mortgage vs. a fixed rate mortgage.

In our most recent newsletter we write about this same issue. Looking in the past to see the future is probably the easiest way to make your decision. Back in 1999 the prime rate was 7.25% at it high. Discounts on the variable rate were prime minus 0.25% giving the consumer an average variable rate of 7%. The prime rate was cut to 3.25% during the 2001 world trade centre attack. That rate was around for more than 18 months and climbed to 6.25% in 2008. The discount on that variable rate was prime minus 0.95% which equated to a rate of 5.35%.

When the capital markets collapsed in October 2008 our prime rate hit an historical low of 2.25%. The Bank of Canada’s overnight lending rate was 0.25%. The banks at the time were charging consumers a premium of 1-2% over prime, so a variable rate was around 3.25%.

Taking all of this into consideration the cost of borrowing funds should be decreasing. Since November 2009 the discounts on the prime rate have increased from prime to prime minus 0.7%. It is reasonable to assume that even as the prime rate increases the average variable rate should stay relatively lower than the fixed rate today. In short if rates will decrease by 4% during tougher economic times and increase by 3% as economies pick up steam, it is reasonable to expect the prime rate to be 5.25% by 2015. If you assume that there will be the average prime rate discount in 2015 your new variable interest rate will be approximately 4.6%, making it slightly higher than today’s average 5 year fixed rate of 4.3%. Basically, if your primary objective is to pay down your mortgage faster, that opportunity could still exist today depending on your personal circumstance and if you go with a variable rate mortgage.

We have constantly compared the fixed vs. variable rate with our Mortgage Mentor Program. To find out how a fixed mortgage rate matches up with a variable rate ask your mortgage agent to send you a comparable of your mortgage savings.