Canada’s mountain of consumer debt is triggering multiple alarms about the threat to the country’s banks.
Moody’s Investors Service joined the Bank for International Settlements and S&P Global Ratings which have all warned in the last month that Canada’s banking system, dominated by five giants, is facing a growing threat of souring consumer loans amid rising interest rates. The country’s ratio of household debt to disposable income reached a record 171% in the third quarter of last year.
The country's five largest banking companies are TD Financial Group, Royal Bank of Canada, Scotiabank, BMO Financial and Canadian Imperial Bank of Commerce.
The proportion of uninsured mortgages has increased to 60% from 50% five years ago, including home equity lines of credit, amid government efforts to reduce taxpayer exposure, according to the report from Moody’s on Tuesday. Canada Mortgage and Housing Corp., a government agency, insurers the bulk of mortgages in Canada.
Almost half of outstanding mortgages, many of them on fixed-rate terms, will have an interest-rate reset within the year, increasing the strain on households’ debt-servicing capacity, Moody’s said.
Further aggravating the situation are auto loans which are getting offered at terms as long as 68 months, authors of the report said. With these long terms, the car’s value often drops below the amount of the loan before it’s paid off.
Yet it’s the unsecured credit-card portfolios that will be the first to feel the pinch as their repayment tends to have lower priority for financially strapped borrowers.
All of these consumer loans have so far performed well in Canada as the country boasts the lowest unemployment rate in four decades. The arrears rate is only 0.24% for residential mortgages — seven basis points below the 10-year average, while the auto-loan delinquency rate is only 1.5 percent, Moody’s said. Canadian banks have also earned a reputation of being well-managed, conservative institutions after passing through the global financial crisis relatively unscathed.
The warning from Moody’s comes after the Bank for International Settlements placed Canada among the economies most at risk of a banking crisis, alongside Hong Kong and China. S&P Global Ratings last month lowered a key risk metric for Canadian banks after evidence of mortgage fraud.
The Bank of Canada held interest rates steady this month after increasing them three times since the middle of 2017. The central bank said it continues to monitor the economy’s sensitivity to higher rates.