Unexpected job losses and increasing loan delinquencies signal potential troubles ahead
Credit risk monitors are closely tracking loan performance in Canada as rising interest rates strain borrowers and lenders alike.
Fuelling these concerns is a recent surprise: Canada shed over 2,000 jobs in March, with the unemployment rate climbing to 6.1%, its highest point in two years. This unexpected downturn contradicts economists' predictions of job gains.
"This is stoking unease about the short-run outlook for loan performance," warned Moody's Analytics. Until recently, a robust labour market and steady wage growth supported credit performance across most sectors. However, default rates could soon spike if the March jobs report signals a weakening economy.
"If Canadian households were to lose this crucial support, as the March jobs report hinted, default rates would quickly accelerate higher," said Moody's economist Brendan LaCerda.
Despite these concerns, residential loans, including mortgages and home equity lines of credit (HELOCs), are still performing well below their pre-pandemic levels. Similarly, credit cards and unsecured loans are not yet causing significant alarm as they align with historical norms.
However, auto loans are now under scrutiny. “While every other credit segment continues to outperform its pre-recession average, auto loans delinquencies’ upward trend presents a troubling development,” LaCerda said.
Data from Equifax Canada and Moody's revealed that auto loan delinquencies have already exceeded their pre-pandemic baseline and are accelerating. This trend includes a growing number of loans where payments are 60, 90, or even 120 days late.
Moody's points to a long-term industry pattern contributing to this situation. Since 2011, auto loan balances for borrowers with lower credit scores have outpaced growth seen in higher credit score borrowers (with a brief pullback in risky lending).
The tendency for vehicles to depreciate in value, unlike the rising equity often seen in the housing market, leaves borrowers with less of a safety net if they encounter financial difficulties and need to sell their vehicle.
Equifax Canada's recent credit report emphasizes a broader concerning trend, with a nearly 30% increase in delinquency rates for non-mortgage balances that were 90 days or more overdue. The fourth quarter of 2023 saw over 153,000 additional consumers missing payments on various credit products compared to 2019 levels.
"Factors such as high cost of living, inflation, credit card payments, and mortgage renewal worries are coming at consumers right now," said Rebecca Oakes, vice president of advanced analytics at Equifax Canada. "Budgets have been pushed to the limit for some. There’s no doubt Canadians are feeling the financial pinch.”
According to LaCerda, whether delinquency rates escalate further hinges heavily on the Bank of Canada's decisions. If rates are lowered this summer, it could improve consumer sentiment and potentially prevent deeper job losses. However, he warned, "Delaying longer risks inflicting further strain that could spark a more serious credit shock.”
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