Julia Johnson
Fast-rising home prices and record-levels of household debt are posing a possible threat to Canadian banks’ credit portfolios, according to a report Monday by U.S. ratings agency Fitch.
The agency examined the exposure of Canada’s six largest banks to mortgage risk and found that household debt fuelled by mortgage credit expansion in Canada is the largest threat to credit profiles.
‘We’re not talking about a U.S.-style situation at this juncture’
“These are quite high levels of debt for households and the movement in house prices, we don’t think this is sustainable in the long term,” said report author Fabrice Toka, senior director at Fitch.
The six banks have a combined $730-billion in mortgage exposure and an additional $182-billion in home equity loan exposure, the report noted.
High unemployment or interest rate shock “could aversely affect the ability of leveraged homeowners to meet their mortgage obligations,” the report said.
Fitch said the debt-to-income ratio in Canada is higher than pre-recession levels in the U.S., but Canadian banks aren’t vulnerable to a similar sub-prime mortgage crisis because of fundamental differences in the markets and the way the industry is regulated.
“We’re not talking about a U.S.-style situation at this juncture and there are market structure elements that are different between the two countries that you have to keep in mind as you go between the analysis,” Mr. Toka said.
He pointed to the fact that mortgages were often sold on in the U.S., whereas in Canada banks tend to hold the origination themselves. Also, independent mortgage brokers — often blamed in the mortgage crisis for loose lending — are used much less in Canada.
Fitch analyzed the risk by testing the affect of cumulative bank losses in scenarios where the losses were between one and 10%.
When comparing the banks’ domestic mortgage value relative to total loans, CIBC and RBC were exposed to the most potential risk, while TD Canada Trust and Bank of Montreal were the least. The agency also noted that TD uses more insurance relative to the others while RBC had the least.
“BMO has a different approach to the market than others. For two years now, we have been actively promoting fixed rate products with a maximum amortization of 25 years. With our offering, Canadians can pay less in total interest, become mortgage free faster, and protect themselves against the risk of rising rates,” said Paul Deegan, vice-president government and public relations at BMO Financial Group
“If you run that limited single-factor stress test what you would see is that RBC and CIBC would be viewed as the most exposed, given the size of their mortgage books and also the fact that in the case of RBC, you have a comparatively lower usage of insurance,” Mr. Toka said.
‘Under moderate stresses the banks were all in a position to absorb moderate stress cases’
The agency said Canadian households have become more vulnerable to adverse market shocks in the past decade. The housing market has been pushed upward by low interest rates in the past 10 years. Since housing prices have risen at a faster pace than household income, household debt levels are at record highs, the report said.
“Interest rate levels – being where they are – it still makes debt appear affordable,” Mr. Toka said.
Canadian banks are all regulated by a single regulator. “That would tend to help in terms of reducing conflict of interest and making sure the players behave in the same way,” Mr. Toka said.
Overall, the report found that Canadian banks had sufficient capital to withstand reasonable market stress.
“Generally we found that under moderate stresses the banks were all in a position to absorb moderate stress cases,” Mr. Toka said.
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