Upcoming renewal period will be a significant challenge for the country's top financial institutions
While Canada’s largest banks will labour under the substantial threats posed by mortgage defaults and losses, these institutions are sufficiently placed to “weather the storm,” according to a recent analysis by the Financial Times.
However, the upcoming renewal period and the resulting additional burden of a large upswing in mortgage payments will be no easy hurdle to overcome, FT said.
“Canada’s $2.1-trillion mortgage market is made up of short-term fixed and variable-rate loans,” FT said. “A common mortgage is a five-year fixed-rate mortgage amortising over 25 years. After five years, borrowers are exposed to any rate increases during the intervening period.”
The Royal Bank of Canada estimates that around $900 billion in mortgages will need refinancing between 2024 and 2026. This amount represents nearly 60% of all outstanding mortgages at Canada’s chartered banks.
FT warned that if the Bank of Canada maintains its benchmark policy rate at its multi-decade high of 5%, mortgage holders will have to contend with massive spikes in payments.
“Rates for a three- to five-year insured fixed mortgage have shot up from 1.93% in November 2020 to 5.74% in October 2023,” FT said, citing figures from RBC. “Payment increases range from a weighted average of 32% next year to 48% in 2026.
The stocks of Canadian banks have seen a significant uptick despite issues such as the country’s economy stalling, a rising unemployment rate, and housing costs.
— Canadian Mortgage Professional Magazine (@CMPmagazine) December 13, 2023
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FT noted that potential mortgage defaults and losses are a particular concern for the Bank of Montreal, the Canadian Imperial Bank of Commerce, and Toronto-Dominion Bank, which together carry a portfolio of $128 billion in variable-rate mortgages currently experiencing “negative amortization”.
Despite these challenges, “the Big Six should be able to weather the storm,” FT said. “Unemployment has remained relatively stable. Credit quality is tolerable.
“Moreover, the threat of mortgage payment shock should prompt the central bank to start cutting rates sooner rather than later. Canadian retail and consumer stocks are in greater peril than bank shares.”
