Prime Rate Increase to 4.7% + What To Do About It by Robert Klein

The prime rate has risen by 1% to 4.7%.  For example, if you have a prime - .9% variable rate mortgage, you now have a 3.8% variable rate mortgage.

According to social media, the entire world is collapsing. 

Let us break it down.  *I am not an economist. 

Where is our inflation coming from?
At any given moment in time, we have a fixed amount of goods and services versus a fixed amount of currency. 

If we increase the amount of currency available and the number of goods and services remains the same, the price of goods will inflate. 

If we decrease the production of goods and services versus a fixed amount of currency, the price of goods and services will inflate. 

If there is pent-up demand (increase) for goods and services versus a fixed amount of currency, the price of goods and services will inflate. 

The above three have all happened in the last 2 years due to covid and we are now seeing the result of these events.

How will inflation stop or slow down?
Decrease the demand for goods and services.
Increase the supply of goods and services.
Increase the demand for currency.
Decrease the supply of currency.

What can the Bank of Canada do?
The only thing they can do is increase the rate.  When they increase the rate, the demand for currency will decrease.  Less currency is available, in turn decreasing the price of goods and services and slowing down inflation.

How do you defend against this?
Do the math.  Let’s make some assumptions:
1. How long will it take to go back to normal: 2 Years
2. How much extra interest will you pay: 2%/year
3. Average mortgage size: $600,000

The above is my guestimate.

Total Cost: $600,000 x 2% x 2 Years = $24,000

If you can afford the extra $24,000 in cost over the next 2 years with your income, line of credits, investments etc., then you are ok. 

What should you do in this situation?
1. Run your numbers and know your numbers. 
2. Structure line of credits against your properties(s)
3. Look at converting to 1, 2, 3 year fixed rates if the variable rate = fixed rates

What are investors going to do?
“Be greedy when others are fearful.”
Investors are going to buy in this market.  They are going to structure line of credits/mortgages against their properties and prepare their financial position to qualify for lending.

What is a good strategy to buy as an investor?
With higher rates, cash flow is going to be restrictive.  So instead of buying a $800k property with $200k down, it makes more sense to buy a $500k property with $200k down.

Which homeowners are going to buy in this market?
1. New home buyers as they are still paying insane amounts of rent.    
2. Home buyers that want to upsize or downsize in a calm fashion.     

Are there more risks to consider?
Let us use a 40-year-old making $120,000/year and will work till age 65. 

Death: $120,000 x 25 years = $3,000,000 Risk
Disabled and can no longer work: $120,000 x 25 years = $3,000,00 Risk
Critically Ill: $120,000 x 3 Years = $360,000 Risk

The above risks make the interest rate risk look small.  Something to think about. 

What is the next step?
If you would like to discuss your options for mortgages & insurance, feel free to set a time: https://calendly.com/robertkleinmeeting/20min

Robert Klein                              
Mortgage Broker & Commercial Realtor
Pacific West Mortgages Inc. & NAI Commercial (Victoria) Inc.
C: 778.896.6732 | F:604.648.9701              
Email: robert@robertklein.ca               
Visit our website at www.robertklein.ca