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If Canada's housing market crashes, will they bail out their banks?


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Guest Schwab711

Subject sums up my question. Are Canada's Big-5 banks TBTF and why? I don't really understand the intricacies of Canada's banking industry or political culture so I really have no idea.

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The big 9 or so mortgage lenders in Canada: Ry, Bmo, TD, Bns, Cibc, National, Laurentian, FN, and HCO, are unlikely to suffer too adversely under a "housing crash".  They generally only lend prime, and it is difficult to get a mortgage in Canada, as compared to US circa 2003-2008.  When they lend at more than 80% LTV the Canadian Mortgage and Housing Authority requires lenders who cant make the 20 % downpayment to buy their insurance or private insurance (Genworth is the major alternative player here). 

 

So here is my take:

1) Most mortgages are already in process and being paid down, while house prices rise.

 

2) Only new mortgages are originated at the present prices.

 

3) Underwriting standards are strict at the big lenders mentioned above:

a) you need proof of income - there is no way around this except fraud

b) the banks have their own individual fleet of home assessors each.  They wont take assessments done by anyone else.  I both renewed my mortgage and opened a Heloc with two of the above lenders. When renewing my mortgage the old Heloc was discharged first.  My house was assessed last fall and this spring for $950 k.  If I sold it today it would be in the neighbourhood of 1.1 Million.  The lender would only give us a Mortgage plus Heloc < 80% of the assessed value: That would be 80% of 950 not 1.1 Million

c) Credit scores matter - big time.  Mine and my wife's credit scores are very high and we still needed proof of income and the assessment of value.

 

If there is a "housing crash" the big banks/lenders stocks may go on sale but they will not suffer huge losses. 

 

There is alot different between Canada and the US.  The market is tiny and the degree of bad lending is nothing like the Ninja era in the US. 

 

IMHO, the bulk of a price adjustment will be borne by non bank sub prime mortgage lenders not in tje above list.  I dont know the names but a simply Google search of "buy a house in Toronto with bad credit" should reveal a good slug of advertisements. 

 

Actually, the allegedly imminent housing crash has already put downward pressure on the major lenders.  Home Capital, and First National ( a major personal holding) are at multi year lows.  The others are bouncing around 52 week lows. 

 

A bit of history: Virtually all of the 5-7 big banks have paid dividends continuously for a century.  There have been years without increases such as 2008, 2009 but no outright eliminations and they have done some stupid stuff along the way. 

 

Long way of saying there will be no need for bailouts. 

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After the Toronto bubble burst in 1989, mortgage arrears in Ontario peaked at 0.72%. Just because a housing market crashes, doesn't mean banks will have big losses. Though common in the U.S. Bank failures are virtually non-existent in modern Canadian history.

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I think Canada is a more socialist country than the US. In essence, it is usually like a slowly deflating tire instead of a blast. We tend to be more fiscally conservative to limit growth, have higher taxes that kick in at lower levels than the States, and higher average inflation than in the US. The sum total result of all these policies is that our busts tend to be more like a slowly eroding and grinding process rather than a plunge.

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Guest JoelS

When they lend at more than 80% LTV the Canadian Mortgage and Housing Authority requires lenders who cant make the 20 % downpayment to buy their insurance or private insurance (Genworth is the major alternative player here). 

 

Yes, but how much capital does Genworth mortgage insurance Canada hold? Will they be able to withstand a huge housing crash as they are effectively the end of the chain.

 

The reason I ask is because in Australia, Genworth has about $1.5bn capital which in a "maximum probable loss" situation, would likely wipe out equity holders. Genworth and QBE mortgage insurance are supposed to be the cushion in such a crash, and big Australian Banks publicly say their losses will be minimal because they can offload it to the mortgage insurers. But I cannot see how that will be because these businesses don't have large capital bases (like the US mortgage insurers didn't), and I would think the bag gets passed back to the bank. Correct me if my understanding is wrong.

 

I wonder if it is a similar situation in Canada.

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Given the size and concentration they are TBTF (IMHO), and a bailout is already built in with government-backed mortgage insurance. If/when there is a housing bust, I don't think it's going to be a fun time for the banks (especially common owners), but I also don't think they'll go belly-up.

 

That said, what's brewing up here has the potential to be really bad. For instance, in the 1989 bust in Toronto the default rate was relatively modest (I had in my head 1%, KCLarkin seems to have a more precise figure) -- about 5X baseline IIRC. But the rates were in decline, so those who over-paid in the mania got a fair bit of relief from that (BoC data has someone buying in '89 at ~12% renewing in '94 at ~9%). And mortgages at the time typically had more of a down payment (CMHC insurance-in-force was $50B in 1990 vs $550B today). So there may have been some strategic defaults from those underwater, but other than paper losses (and those facing a forced move) there wasn't much real pain for regular buyers.

 

This time around we have many with minimal skin in the game, possibly facing increasing rates at renewal. There will possibly be more pain, and more incentive to strategically default.

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To answer the question, yes, absolutely. If Canada's big 5 required a bailout, they would get one. I would expect the terms to be punitive, because the banks are not universally popular here. (A century of oligopoly earnings will do that to you...)

 

Someone upthread asked about Genworth Canada. They have $3.4B in equity, and another $1.8B of premiums that they've collected but not accrued into earnings, so its shown as a deferred revenue liability. Customers pay their mortgage insurance upfront, but they book it as revenue over the expected life of the loan. So they have a total of $5.2B to pay out claims over and above their loss reserves, which are not substantial. They had $169 B of mortgages insured, but a material portion is "portfolio insurance" where they've insured a bunch of low LTV (<80%) loans for lenders. This is presumably lower risk business. It looks to me like in the US in 2008-2012 about 10% of mortgages went into foreclosure. Considering they have old (so paid down/appreciated) and portfolio loans, they're probably about averagee mortgage quality. So figure $17B in foreclosures worst case. That would allow them a 30% loss on foreclosures to cover their obligations (while wiping out their shareholders). So they're probably close to being able to cover a US-2008 style crash, which seems like a worst case scenario to me. (Canada's economy is probably more volatile, but there's less subprime).

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The other consideration is that non-recourse mortgage debt is less prevalent in Canada, meaning that strategic defaults should be less of a problem.  If you find yourself under-water on your house and choose to use the "jingle mail" strategy to try to just walk away from your problem, the banks can sue you for the shortfall and effectively seize certain types of your other assets and garnish your wages...

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Isn't that the same as Florida, etc. where real estate prices had the biggest drops. Is there any proven corelation between non-recourse mortgages and what happens or is it more dependent on human behaviour and the debt/income/supply/demand.

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BTW from what I hear fake income tax documents are sold for less than CAD$200 with any income that you need.

 

We don't need subprime because we beat the system. This is how you raise median house prices to 11x median income.

 

When the dust settles, the next shock will be that people had less equity than the government stats show and there were more rentals than reported.

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Guest Schwab711

The big 9 or so mortgage lenders in Canada: Ry, Bmo, TD, Bns, Cibc, National, Laurentian, FN, and HCO, are unlikely to suffer too adversely under a "housing crash".  They generally only lend prime, and it is difficult to get a mortgage in Canada, as compared to US circa 2003-2008.  When they lend at more than 80% LTV the Canadian Mortgage and Housing Authority requires lenders who cant make the 20 % downpayment to buy their insurance or private insurance (Genworth is the major alternative player here). 

 

So here is my take:

1) Most mortgages are already in process and being paid down, while house prices rise.

 

2) Only new mortgages are originated at the present prices.

 

3) Underwriting standards are strict at the big lenders mentioned above:

a) you need proof of income - there is no way around this except fraud

b) the banks have their own individual fleet of home assessors each.  They wont take assessments done by anyone else.  I both renewed my mortgage and opened a Heloc with two of the above lenders. When renewing my mortgage the old Heloc was discharged first.  My house was assessed last fall and this spring for $950 k.  If I sold it today it would be in the neighbourhood of 1.1 Million.  The lender would only give us a Mortgage plus Heloc < 80% of the assessed value: That would be 80% of 950 not 1.1 Million

c) Credit scores matter - big time.  Mine and my wife's credit scores are very high and we still needed proof of income and the assessment of value.

 

If there is a "housing crash" the big banks/lenders stocks may go on sale but they will not suffer huge losses. 

 

There is alot different between Canada and the US.  The market is tiny and the degree of bad lending is nothing like the Ninja era in the US. 

 

IMHO, the bulk of a price adjustment will be borne by non bank sub prime mortgage lenders not in tje above list.  I dont know the names but a simply Google search of "buy a house in Toronto with bad credit" should reveal a good slug of advertisements. 

 

Actually, the allegedly imminent housing crash has already put downward pressure on the major lenders.  Home Capital, and First National ( a major personal holding) are at multi year lows.  The others are bouncing around 52 week lows. 

 

A bit of history: Virtually all of the 5-7 big banks have paid dividends continuously for a century.  There have been years without increases such as 2008, 2009 but no outright eliminations and they have done some stupid stuff along the way. 

 

Long way of saying there will be no need for bailouts. 

 

Thanks for this. It's really interesting to learn about the system more.

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The other consideration is that non-recourse mortgage debt is less prevalent in Canada, meaning that strategic defaults should be less of a problem.  If you find yourself under-water on your house and choose to use the "jingle mail" strategy to try to just walk away from your problem, the banks can sue you for the shortfall and effectively seize certain types of your other assets and garnish your wages...

 

That’s really worked well in Spain in terms of their economy…

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The other consideration is that non-recourse mortgage debt is less prevalent in Canada, meaning that strategic defaults should be less of a problem.  If you find yourself under-water on your house and choose to use the "jingle mail" strategy to try to just walk away from your problem, the banks can sue you for the shortfall and effectively seize certain types of your other assets and garnish your wages...

 

That’s really worked well in Spain in terms of their economy…

 

 

We're not talking debtors' prison here.  If you are truly balance sheet and cash flow insolvent, you can declare personal bankruptcy and start out fresh (but this is not without its downsides).  However, in Canada you generally cannot just walk away from a debt because you are underwater on the asset.  If you have sufficient assets or income to re-pay your mortgage, you are expected to do so...

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The other consideration is that non-recourse mortgage debt is less prevalent in Canada, meaning that strategic defaults should be less of a problem.  If you find yourself under-water on your house and choose to use the "jingle mail" strategy to try to just walk away from your problem, the banks can sue you for the shortfall and effectively seize certain types of your other assets and garnish your wages...

 

That’s really worked well in Spain in terms of their economy…

 

 

We're not talking debtors' prison here.  If you are truly balance sheet and cash flow insolvent, you can declare personal bankruptcy and start out fresh (but this is not without its downsides).  However, in Canada you generally cannot just walk away from a debt because you are underwater on the asset.  If you have sufficient assets or income to re-pay your mortgage, you are expected to do so...

 

The only exception to this I'm aware of is in Alberta, where mortgages with 20% or greater downpayments are non-recourse.

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