Variable payments may feel relatively safe right now, but for millions of Canadians they aren’t. Photo by Getty Images

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Consider today’s rates, for instance.

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The lowest nationally advertised uninsured five-year variable now sits at 3.74 per cent (prime minus 0.71 per cent), versus 4.29 per cent for the cheapest comparable fixed.

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On a $500,000 mortgage with a 25-year amortization, that’s about $2,560 a month instead of $2,709, a $149 monthly discount.

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The lower variable contract rate also means an easier pass on the federal mortgage stress test.

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In other words, thanks to how the government’s qualifying rules are wired, today’s variable borrower can qualify for a mortgage roughly five per cent bigger on the very same income — no raise required.

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But here’s the problem: most borrowers who pick a term to save money focus on the payment, not the rate risk attached to it.

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And that mindset is more prevalent than usual right now, for three reasons:

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All of that makes variable payments feel relatively safe.

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For millions of Canadians, however, they aren’t.

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First, in many cases, the payment savings get spent, not banked.

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If the $149 payment savings is consumed, you’ve taken on rate risk and received nothing durable in return.

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That’s not a rate strategy; it’s a lifestyle subsidy.

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Second, the risk is asymmetric.

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That is, the bond market has priced in about four 25-basis-point Bank of Canada hikes over the next five years, according to CanDeal DNA.

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The borrower who needed the $149 discount to make their budget work is precisely the borrower who can’t easily absorb four-plus rate hikes, regardless of whether they passed the stress test.

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Third, on fixed-payment VRMs, a rising prime rate shrinks the principal portion of every payment. If rates jump high enough, borrowers can eventually hit their trigger rate — meaning the lender may increase their payment to ensure the interest is fully covered.

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(Jargon buster: The “trigger rate” is the rate at which your fixed variable payment exactly equals the interest due.)

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For the record, the average rate hike cycle in the inflation targeting era (post 1991) has been 2.82 percentage points — enough to hit the trigger rate.

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(Note: unlike VRMs, adjustable-rate mortgage (ARM) payments automatically move up and down with prime to keep your amortization schedule on track.)

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Finally, there’s the potential of payment shock at renewal. Even if rates surge but payments remain static during the entire five-year term, a borrower renews at a balance that’s shrunk far less than the originally scheduled amortization.