Canada Should Revisit Mortgage Rules as Housing Cools, CIBC Says

(Bloomberg) -- One of Canada’s largest banks is calling on the federal government to reconsider controversial new mortgage rules, as the transfer of risk to unregulated lenders potentially makes the market riskier than it appears.

The introduction of a 200 basis-point stress test on new mortgage lending as part of the so-called B-20 regulations accounted for as much as 60 percent, or C$15 billion ($11 billion), of the C$25 billion decline in new mortgage originations last year, according to Toronto-based Benjamin Tal, deputy chief economist at Canadian Imperial Bank of Commerce.

While the new rules had the desired effect of improving overall credit quality, it has also led more borrowers into the unregulated sector for financing, resulting in a significant market-share increase for alternative lenders, Tal wrote.

Alternative lenders, mostly private, non-family lenders and mortgage investment corporations, now account for close to 12 percent of mortgage transactions in Ontario, up from 10 percent a year ago, Tal wrote, citing data from the province’s land registry. Over the past two years, originations provided by alternative lenders rose by a cumulative 27 percent, compared with a decline in the overall market of 11 percent, he said.

“To the extent that more borrowers use alternative channels, due to policy changes in general, and B-20 in particular, the market might be riskier than perceived,” Tal wrote. “Alternative lending is an integral part of any normally functioning market. But a fast-growing alternative lending market is not.”

CIBC is joining realtors and home-builder groups in calls for the government to revisit its B-20 rules. The Canadian Real Estate Association predicted earlier this month home sales nationwide will drop 2 percent this year, mostly due to higher rates and the B-20 overhaul. Toronto prices fell 0.3 percent and Vancouver’s slid 0.5 percent in March from the month before, and “softening prices fuel disruption concerns and limit mortgage-lending growth,” Bloomberg Intelligence analyst Paul Gulberg said on April 12.

Tal suggests that while imposing the stress tests was probably necessary, it’s debatable whether 200 basis points is the right number, given the rule was introduced in an already slowing market, and since then, the Bank of Canada has raised borrowing costs by 75 basis points and 5-year mortgage rates have increased by 35 basis points.

The rules also don’t take into account increases in the borrower’s income, nor do they allow for the fact that during the course of the mortgage term, equity positions rise as principal is paid down, he said.

“Regulators should revisit B-20,” Tal wrote, adding what’s needed is a more flexible benchmark and possibly a narrower spread over the contract rate.

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