Canada’s mortgage market predictions and some wishful thinking for 2025

The past few years have been extraordinary for Canada’s mortgage market – and 2025 is shaping up to be just as disruptive. While the effects of pandemic lockdowns, inflation and rate-hiking cycles are now fading, much of our country’s economic future hangs on whether the tariffs threats from incoming United States president Donald Trump will come to fruition. Despite the uncertainty, there are a few clear mortgage trends shaping up in 2025. Here’s what you can expect if you’re shopping for a mortgage or coming up for renewal.

A comeback year for variable mortgage rates

Our brokerage has been fielding plenty of inquiries from clients in recent weeks who are wondering if it’s time to go variable. It’s no surprise that rate shoppers are increasingly interested in this type of mortgage. With the Bank of Canada’s benchmark rate falling to 3.25 per cent today from 5 per cent in June – and more decreases expected in 2025 – variable mortgage rates are set to become the cheapest borrowing option by the second half of next year.

 

Economists are split on just how much more the bank’s benchmark lending rate will come down. For example, Bank of Montreal analysts are calling for a final rate of 2.5 per cent while the Scotiabank team leans more conservative at 3 per cent. But borrowers can bank on a few more cuts before the BoC is through. Following its most recent rate cut on Dec. 11, the best five-year variable mortgage rate in Canada eased to 4.35 per cent and could dip to the mid-threes by next year, depending on how deep the bank’s cuts go.

Fixed mortgage rates are hitting their floor

Fixed mortgage rates, meanwhile, appear to be stagnating in the mid- to upper-4-per-cent range. This is owing to bond yields – which lenders use to price their fixed-rate options – remaining high, as uncertainty has made investors wary. Generally, investors pile into bonds when they expect lower rates over the long term. However, Mr. Trump’s promised 25-per-cent tariffs and their potential impact on inflation have scuttled such optimism. Canada’s five-year bond yield, which underpins five-year fixed mortgage rates, has remained firmly in the upper-2- to 3-per-cent range since the end of August, even as the BoC has continued to cut rates through the fall. As a result, borrowers can expect fixed rates to stay where they are unless markets receive some major reassurance on trade relations when Mr. Trump takes office.

Central banks to slow their rate cut pace

Speaking of our American neighbours, their own central bank is signalling fewer rate cuts in 2025. In its most recent rate announcement on Dec. 18, the U.S. Federal Reserve cut its Federal Funds Rate by a quarter of a percentage point to the range of 4.25 per cent to 4.5 per cent; but that wasn’t the news that moved the markets. The announcement’s accompanying Summary of Economic Projections – also known as the “dot plot” – now calls for just two rate cuts in 2025, which would bring its FFR down to a top end of 4 per cent. This is half of what was forecast in September, when four decreases were expected throughout the year. In a following news conference, Fed Chair Jerome Powell pointed to sticky inflation and stable GDP as the reasons for slowing its rate-cutting pace. Both Canadian yields and American treasuries leapt higher on the news of this more hawkish Fed.

 

The Fed’s announcement follows similar language from the BoC, which stated in its December rate announcement that it would be moderating the pace and size of its rate decreases, as inflation is now at 2 per cent and previous cuts are working their way through the economy.

 

The translation here for borrowers: a slower journey to the bottom of variable mortgage rate pricing and stickier fixed rates in the coming months.

Those locking in will go for shorter terms

While five-year fixed mortgage terms have long been the popular choice for Canadian borrowers, they pose a predicament when rates are trending lower. Locking in at today’s elevated five-year rates could mean missing out on thousands in savings as variable rates plunge. But the risks of going variable aren’t for everyone. A popular approach in 2024 was to take out a shorter fixed term, such as a two- or three-year mortgage, and this will carry into 2025. This offers the stability of a fixed rate, along with the flexibility to make a change to your mortgage sooner – hopefully coinciding with the bottom of the BoC’s cutting cycle.

Borrowers to benefit from new mortgage stress test policies … maybe

Canada’s banking regulator, OSFI, amended its guidance on the mortgage stress test in 2024. As of Nov. 21, the test, which assesses whether a borrower could still handle a mortgage if rates were two percentage points higher, is no longer required for those switching to a new lender at renewal time as long as their mortgage criteria remains the same and the mortgage originated at a federally regulated financial institution.

 

This was seen as a big win by the mortgage industry, which has criticized the practice of stress-testing borrowers who switch lenders at renewal time, as it reduces competition in the marketplace.

 

Now that the stress test exemption is in place, though, some lenders are getting creative with how they follow this new guidance. Several of the big banks have since told their broker channels that while they’re happy to drop the test for incoming insured renewals – borrowers who’ve paid less than 20 per cent down and have taken out mortgage default insurance – they still plan to stress test uninsured borrowers coming in from other lenders. From the banks’ perspective, while these borrowers have more equity in their home, the fact that they don’t also carry this default coverage makes them a higher risk to add to their books.

You can’t blame the banks for trying to be prudent – after all, while OSFI has relaxed the rule, they still expect lenders to be conservative in their lending practices. But this approach has led to messy implementation and uneven treatment of mortgage clients.

Dropping the mortgage stress test: A wish, rather than a prediction

The stress test in general has been an important safeguard for borrowers and banks, as interest rates rapidly increased between 2022 and 2023 – but it’s been largely reviled because it reduces the mortgage size one can qualify for. Now that borrowing costs are coming back down, though, perhaps it’s time to drop the two-percentage-point threshold. It could make more sense for the regulator to revert to its previous system, where they simply prescribed a stress test rate based on the average of the big banks’ posted fixed rates. Such an approach would remove confusion for lenders and clients.

 

There’s also growing rationale to drop the stress test entirely, as new loan-to-income requirements coming into effect for banks would further firm up their mortgage underwriting quality. These will require that each lender must restrict the number of clients in their portfolios whose loan exceeds their income by 4.5 times. This has been in place since the start of lenders’ 2025 fiscal years and reduces the need to apply a stress test on the consumer side.

 

But could such bold thinking prevail in 2025? It remains to be seen.

 

 

 

 

This article was first reported by The Globe and Mail