Mortgage Basics

5 Year Bank of Canada Bond Yield Explained

5 Year Bank of Canada Bond Yield Explained

Table of contents

    The 5-year government bond is a low-risk investment available to Canadians, so low risk that it is also called a security. The Canadian government backs bonds, and the coupon yield is returned regularly at a set percentage of the bond’s face value. 

    In this article, we cover what a government bond is, the factors that determine bond yields, why the 5-year bond is important and how it affects mortgage rates in Canada.


    Key Takeaways

    • Bonds are investment instruments the Canadian government offers to help raise money to operate and pay off their debts.
    • Bonds are bought for a set price and repaid in full when the bond matures. They also pay out regularly at a set interest rate, known as the coupon yield of a bond.
    • A bond’s yield measures the value it produces throughout its lifetime.
    • 5-Year fixed-rate mortgages generally follow 5-year government bonds, with an additional 1-2% spread on top of the bond yield.

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    Canada 5-Year Bond Yield

    Bank of Canada 5-Year Bond Yield Explained

    What is a Government Bond?

    A government bond is a security, which means the buyer is lending the government money in return for a guarantee that the face value will be repaid when the bond matures. Government bonds exist to help the government pay for its operations and to cover any deficits in its budgets at year’s end. Bonds are considered secure investments, particularly in Canada, as the government is unlikely to default on a bond repayment.

    What is a Government Bond Yield?

    The buyer will receive interest payments on the money they have loaned the government for the duration of the bond’s term (e.g. 5 years). Yield is the annual bond’s return, calculated as a simple coupon yield (a set percentage of the bond’s face value paid at regular time intervals, e.g. 10% a year) or the more complex yield to maturity (YTM). 

    Unlike coupon yield, a bond’s YTM is the sum of all of the interest payments you would receive throughout the lifetime of the bond and any gains or losses depending on whether you bought the bond at a discount or a premium, giving an overall view of the lifetime yield of a bond.

    For example, if you bought a bond at a face value of $1,000, with a 20% coupon, you would be paid $200 a year every year until the bond matured, at which point you would also be repaid the face value of the bond ($1,000). 

    However, if you sold the bond, its price may have changed. If the bond is now worth $800, it sells at a discount. Likewise, at $1,200, the bond would sell at a premium. However, the coupon percentage remains the same. 

    The buyer of the bond, whether they purchased it at $800 or $1,200, would still receive $200 a year based on the original face value of the bond. The bond yield will have changed based on the coupon amount as a proportion of the new selling price. If you sell the bond for $800, the new yield is 25% ($200/$800).

    If all this sounds complicated, don’t worry. The main thing to remember is that a bond creates value over its lifetime until it matures, and the yield measures how much value it creates.

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    Why Does the 5-Year Bond Yield Matter?

    Bond yields are considered one of the safest investments because the Canadian government backs them. While maturity can range from 2 to 30 years for government bonds, the 5-year bond is especially important for Canadian homeowners holding 5-year fixed-rate mortgages since mortgage interest rates follow 5-year bond yields.

    Bond yields directly impact borrowing costs as yields with comparable terms determine fixed-rate mortgages with the same term (ex., 3-year bond yields determine 3-year fixed rates). 5-year bond yields are also a tool often used to measure the state of the Canadian economy.

    What Causes the 5-Year Bond Yield To Change?

    The government sets the initial interest rate of a bond to incentivize the purchase of bonds. However, when discussing bond yields, the market ultimately determines the yield, which is influenced by several domestic and international factors. Inflation expectations, monetary policy decisions, and economic indicators affect the direction of bond yields, causing them to change in response. 

    Inflation is the most significant influencer on bond yields. Bond yields tend to increase when inflation expectations rise above the set 2% target and may fall if inflation is expected to be below the target. 

    Bond yields usually follow the direction of interest rates when monetary policy is implemented. When the central bank raises interest rates, bond yields typically increase. When the interest rate is lowered, bond yields may also decrease to reflect the lower cost of borrowing. 

    GDP growth, employment data and other economic indicators can also impact bond yields. Since Canada is a close trading partner with the United States, Canadian bond yields are also closely linked to any changes in the US bond markets.

    Are Variable Rate Mortgages Affected by 5-Year Bonds in Canada?

    Variable rate mortgages are not affected by changes to 5-year bond yields. Instead, they are directly influenced by changes to the Prime Rate. Prime rates are set based on the Bank of Canada’s target to the overnight rate. When the Bank of Canada announces changes to its policy interest rate, the variable rate will increase or decrease alongside each announcement.

    5-Year Bond Yield Forecast

    Bond yields hit some all-time lows in 2020 during the pandemic. Since then, they have recovered and climbed higher year over year, peaking toward the end of 2023. The 5-year bond yield is finally on its way down as it fell sharply in the last quarter of 2023, bringing some 5-year fixed rates with it. Based on current trends, the 5-year bond yield is expected to continue to fall. The 5-year bond yield is predicted to fall to around 2.5% by mid-2024.

    5-Year Bond Yields: Frequently Asked Questions

    Bond yields can be confusing at first. To help you break the concept down, we’ve put together a list of the most frequent questions people ask about bonds and bond yields and how they relate to mortgage rates in Canada.

    How do Government bond yields relate to mortgage rates?

    In simple terms, fixed mortgage rates follow bond yields, with a spread added of around 1 to 2% to cover the lender’s risk. Consequently, if the current 5-year bond yield is 2.5%, we can expect fixed mortgage rates to be around 3.5-4.5%.

    How do bond yields affect mortgage rates?

    When bond yields (i.e. the return value a bond produces) rise due to changes in the price of a bond, funding mortgages become more costly for lenders, causing an increase in their advertised rate to ensure they make a profit. 5-year fixed-rate mortgages follow 5-year bond yields, plus a spread set by the banks. 

    Bond yields can change direction based on market sentiment and economic factors like inflation and employment rates. While this won’t change your rate if you’re already locked into a 5-year term, it may change the current interest rates offered on 5-year fixed mortgages.

    Ultimately, interest rates have an inverse relationship to bonds, which means that as money becomes more expensive to borrow (i.e. interest rates go up), bond prices fall and vice versa. Why? Because bonds pay the holder a fixed interest rate that becomes more attractive if interest rates fall. In turn, this drives up demand and the price of the bond.

    Conversely, if interest rates go up, investors will no longer see the value of the lower fixed rate the bond pays, resulting in lower demand and declining bond prices.

    How are Government of Canada Bonds issued?

    The Government of Canada issues fixed-income securities like bonds in certificate form through securities auctions. You can typically purchase government bonds from any major Canadian bank or investment institution or through a broker. The Canadian government issues bonds on an ongoing basis and will set rates based on current economic conditions.

    Should I get a fixed-rate mortgage if mortgage rates keep rising?

    Since fixed-rate mortgages generally follow the bond yield curve, it may be a good idea to lock into a fixed-rate mortgage now before it rises further. Throughout the pandemic, interest rates have shifted to historically low levels and are now climbing. 

    As a general rule of thumb, if you’re ready to get a fixed-rate mortgage, it’s always a good idea to lock into a lower rate when you know rates will likely continue to climb. The best place to start is by exploring the best fixed-rate mortgages available in Canada and seeing what you qualify for.

    Final Thoughts

    Bonds are financial instruments governments use to help raise money to operate or fund infrastructure growth. They’re considered low-risk and secure investments since they pay a fixed rate of return throughout their lifetime and are backed by the government.

    Bonds are also fairly liquid investments since they can be easily bought and sold on secondary markets. Knowing how bond yields affect mortgage rates is useful since the two are closely related.

    If you’re borrowing money for a mortgage, it helps to lock into a lower interest rate early, particularly when rates have been consistently low for a long time and have started to increase.

    If you want to learn more about how to get a mortgage in Canada, speak with one of our experienced, knowledgeable and licensed mortgage experts today.


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