Welcome to the Wisdom Lifestyle Money Show. I'm your host, Scott Dillingham. Today, I'm recording this one at home. It's a bit different than the normal format, but I was out on my on my motorcycle, and I was going around, and I I thought of this. And it's something that happens all the time with clients nowadays.
Scott Dillingham:And pretty much what they wanna know is what are the interest rates doing? Where are they going? And should we lock into a shorter term? So then when that term is done, maybe the rates are lower, or should we go with a five year fixed and move forward? I wanted to just have a discussion with you on this because I think it's important, and I think a lot of investors are missing out on this key piece.
Scott Dillingham:What's happening is obviously the rates have been going up. It's it's now June 2023, almost July, and the government of Canada or Bank of Canada, sorry, raised the rates roughly three weeks ago. People are suspecting that they're gonna raise the the rates again this year too. It's hard to say. Right?
Scott Dillingham:These are economists guessing, and it's a guess. Right? It's an educated guess, but it's still a guess. So it could be wrong. So we don't really know if the rates are going to go up or not.
Scott Dillingham:But what a lot of investors are trying to do is they're trying to beat the system. They're trying to think, okay. Look. We suspect the rates might go up in the short term, but in the long term, they'll go down. And it's true like Canada on paper is in a recession, right?
Scott Dillingham:If you look at the gross domestic product of Canada, and the definition of a recession, we are in one. Fiscally and financially, we haven't felt it per se. We have felt the cost of goods being quite high, but there's still like good employment numbers, good jobs. Obviously, this is not covering all cities. I realize some cities and towns struggle with these things.
Scott Dillingham:I'm referring to very broad approach where I'm speaking of the Canadian economy as a whole. Every recession, the rates lower. Okay? That's what we expect, and they do that to boost the economy. Now the lenders that I'm speaking to are saying, look, Scott.
Scott Dillingham:If the Bank of Canada does lower the rates, it's not gonna be like what it did in COVID or in the o seven and o eight recession where they slashed rates like crazy. It's going to be calculated and it's going to be slow. And they also don't believe the rates are going to drop that much. They're suspecting that they just drop a little bit. Where I know a lot of investors are hoping they they get slashed.
Scott Dillingham:They just dropped 2% overnight. And I I guess at the end of the day, nobody really knows what's happening, but I do see a challenge is that clients are wanting to lock in to two or three year fixed because their thought is, look, if I get a five year fixed, I'm accepting a rate for five years. But if the rates come down, I'm gonna miss that decrease in rates. So overall, I'll be paying more. And I think this is incredibly flawed thinking.
Scott Dillingham:And when I explain this, there's I would say maybe half the investors get it and and half don't. So my word of caution to you is don't follow the flock. Use your emotions. Think about it, and think what makes the most sense for my scenario right now. And I'll explain it, and then you can decide what to do.
Scott Dillingham:So what the investors are anticipating is the rates are lower. So they're getting or wanting to get a two or a three year fixed with the goal that when that two or three years is done, that the rates are lower, and then they can walk into something different. So overall, they'll save money. But it's incredibly flawed because they're not literally writing down the interest that they're that they're paying. So if you get a two or a three year fix now these are basic averages.
Scott Dillingham:I recommend speaking to us or another mortgage broker to get the exact numbers for you and your scenario. But if you think about it, the five year fix right now is roughly one to one and a half percent cheaper than the two in the three year terms. Now that's an average rate. You might find some that are just slightly lower than that, but you will also find some that are higher than that. So I'm saying, on average, you're one to one and a half percent higher of a rate if you go with a two year or a three year.
Scott Dillingham:Now in all honesty, the banks do that on purpose because they want you to lock in for longer because it's better for them. They have a customer for longer. Right? So they discount the five year more. Right?
Scott Dillingham:But the argument becomes this. We know that the lenders and the economists are saying if the rates go down, it's only gonna be a little bit. It's not gonna be a lot. So they're not gonna slash multiple percentages like what they did in the past. So with that thought in mind, right, you're willing if you go with a two or three year right now, that means you're willing to accept the rate that's roughly one to one and a half percent higher than the five year, and you're gonna have that higher rate for two to three years, paying one and a half percent higher than what you thought you might have if if you got the five year fixed.
Scott Dillingham:And they're doing this with the gamble that the remaining two or three years left depending on the initial term that they picked compared to just going with a five, that those rates are gonna be lower. But what they failed to realize is those rates have to be drastically lower to make up that savings or else you're paying the money. Because if the rates drop one and a half percent, it's going to be a wash for you. Do you know what I'm saying? Because you're overpaying one to one and a half percent for the first couple years, and then the next couple years, you might save one to one and a half percent if that's what it drops.
Scott Dillingham:So it has to drop a substantial amount for those savings to kick into play. And they're saying they're not gonna do that. They're not gonna drop it big time. So you have all these people that I believe are making the wrong decision because it's more of a gamble. And not to say they're making a wrong decision.
Scott Dillingham:I don't wanna say that anybody's wrong in this because nobody really knows. Nobody's can predict the future. But what I'm saying is the thinking is flawed because they're not literally adding up how much extra in interest they're paying over those first two to three year terms, and they're factoring in massive drops, which just aren't gonna happen. So overall, the investors are gonna end up paying more money out of pocket, I believe, in my opinion, because they're saying they're the rates aren't gonna drop that drastic. Why gamble?
Scott Dillingham:Do you know what I mean? Like, why gamble with your money? So my advice and my suggestion is get what feels right now. If you like the idea of that lower interest now, which will give you a lower payment and higher cash flow potentially. Right?
Scott Dillingham:Some markets, there isn't cash flow because of the price, but in many markets, there still is. So depending where you're tuning in from. But sit back and really think, is that really what's important to me today? Forget the future. Nobody knows what the future holds.
Scott Dillingham:We've not really been through a rate environment like this and then COVID and then recession. It's it's different. So nobody really knows. I also know the Bank of Canada's overall goal is to raise interest rates. They want them higher than what they are now.
Scott Dillingham:Now they can't just do it overnight. I know they really increased the rate last year, but a lot of that was to eliminate the discounting that they provided for COVID. And a lot of the rates now are actually pretty close to pre COVID rates. And I think a lot of homeowners ignore that fact. So they were naturally and gradually going up.
Scott Dillingham:And then COVID came and everyone's, yeah, everything's so cheap. So just know that it's not like they're really higher than they were before. It's pretty much the same. But we felt it because they raised it so quickly. It wasn't a gradual process.
Scott Dillingham:So my advice again is pick what's best for you today. Now let's say you disagree with my statement, and you think it is still better to get a two or a three year term. I'm gonna say that's wrong because you don't know the market. What if they do lower the rates in a year? And again, I don't I'm using the word wrong.
Scott Dillingham:I I don't mean or to to call somebody wrong or insult anybody. But what I think is better, a better thought instead of I'm gonna go with a three year term because it's gonna be better than what if the rates are the lowest in one year? You know what I mean? And you've still locked in for three. If this is your game plan, you're missing out because you're still locked in.
Scott Dillingham:If you are somebody that really thinks they're gonna lower and you wanna capitalize on that, and again, nobody knows, so it very well could happen, then I would say get the variable rates, because the variable rate, that will adjust as the rates adjust. If you start to see that it goes down, then you benefit right away even if the lowest rates are one year from now. And so that's the challenge with picking a two or three year fix is you're trying to not only trying to save interest overall in the grand scheme of things, but you're also trying to time the market and time when the Bank of Canada is going to lower the rates, and it can't be timed. They base that on a lot of different variables. I think if that is your strategy, and after hearing this, you still think it's best to choose a shorter term, then again, I would choose a variable.
Scott Dillingham:If you don't know this, the variable, you can convert to a fixed at any point in time. So say the rates are the best in one year, or you feel like they're the best and you're hearing the news, it's not gonna change any lower. This is where we're at. You can convert that and lock it in if you wanna lock it in, or if you wanna stick with the variable and ride that out, you have that option. But I just see a lot of investors not making those educated decisions, and they're gonna end up or could end up paying much more.
Scott Dillingham:I firmly believe they will end up paying more just from what I'm hearing as a mortgage person, as an insider. But again, the lenders telling me this, they don't know also. Nobody knows what's in the deck of cards. Again, I think if you're somebody who really needs that money, just get a longer locked in fix like a five year fixed. Even if it does cost you a little bit more later, it's gonna save you a lot now for the next couple years anyways because it's much lower.
Scott Dillingham:I think that's best. But if you wanna ride it out, then I would say go with the variable because then you can you don't have to worry about timing the market. You're still in the game where you can benefit if they go down, but now you're not timing it. When it goes down, it'll go down, and you'll be able to capitalize on that automatically because you don't even have to do anything. The rates come down.
Scott Dillingham:It it goes down for you too. So that is what I would suggest to help you out. Plus, as an investor, the lower your rates, the lower the stress test. And the lower your stress test, the more you're gonna qualify for. So if you're trying to build your portfolio and you're trying to grow, getting that smallest payment is going to be the thing that's very ideal for you to for your growth, you know, plans.
Scott Dillingham:So that is what I suggest. I I welcome your feedback. Let me know what you think about this. If you have any different opinions, right? It's really unique situation that we're going through.
Scott Dillingham:I just my fear is that people are expecting this. And if it doesn't happen, then we're gonna have tons of investors overpaying that have much higher mortgage rates than they should have. And then on top of that, they're gonna qualify for less down the road as they build their portfolio. It's in in my opinion, it's it is better to go with the, the fixed. But, anyways, thank you for tuning in to today's show.
Scott Dillingham:I love your feedback. And if you really like the show, please share it. Give us a review. I would really appreciate it. Thank you.