Central bank says renewals could lead to hefty payment jumps, strain finances
Homeowner renewing their mortgages should brace for increases in monthly payments due to steeper interest rates. the Bank of Canada said.
The central bank estimates that by 2026, median monthly payments for variable-rate mortgages could increase by more than 60%.
Rising interest rates haven't caused widespread mortgage defaults, which remain below 0.5% so far, according to the BoC’s annual Financial Stability Report.
However, the Bank warned of growing risks to financial stability as households and businesses grapple with higher debt servicing costs.
“If more Canadians lose their jobs, the unemployment rate goes up, all of a sudden that stress, that vulnerability is really at risk of crystallizing,” Governor Tiff Macklem said in a statement. “More households won’t be in a position to pay that mortgage, particularly given the larger reset. So, it is a vulnerability. And the point here is households and banks need to get ahead of that. We know what’s coming.”
Roughly half of outstanding mortgages have already renewed at higher rates since the central bank hiked rates in March 2022. Homeowners weathered this initial wave due to income growth, savings, and reduced spending. However, the report notes that renters currently face greater financial stress.
The next phase of renewals could be much tougher. Many homeowners with mortgages up for renewal in the next two years purchased at the height of the pandemic when rates were at emergency lows.
While economists expect rate cuts to begin this summer, Macklem said rates will likely fall back slowly and will not return to pre-pandemic levels.
The most dramatic increases will hit homeowners with variable-rate mortgages with fixed payments.
The report projected that by 2026, the median monthly payment for this group could increase by over 60% compared to existing payments. Even those with fixed-rate mortgages, typically less impacted by rate fluctuations, face potential payment increases exceeding 20% in 2026.
Despite the mortgage payment shocks ahead, the report had a more positive overall outlook than last year when financial markets were roiled by bank failures and pension fund turmoil.
Read next: Affordability crisis leads to homebuying delays in Canada – CMHC.
However, the bank flagged rising risks in certain areas like overleveraged hedge funds and pension funds, potential corrections in overheated asset markets, and struggles in the office real estate sector, where vacancy rates are nearing 20% in Toronto.
The central bank said smaller banks are more exposed, with commercial real estate loans making up 20% of their portfolios versus 10% for large banks. Loan delinquencies are also higher at smaller banks geared towards riskier borrowers.
The entire banking sector remains well-capitalized to handle losses, according to the report, having built rainy-day funds, though asset managers like pension funds ramping up leverage in repo markets is an emerging concern that could amplify bond market volatility.
"Leverage is usually there to amplify profits, but it works the other way around, too. It amplifies losses, it amplifies volatility," said BoC senior deputy governor Carolyn Rogers.
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