Canadian Consumer Loan Performance Remains Solid Despite Record Household Debt

Overall Canadian household debt has risen steadily over the last decade. We explore how this impacts the Canadian banking sector holding consumer loans.

Eric Espeseth, Senior Credit Analyst

Steadily increasing household debt in Canada has raised concerns over the potential impact this may have on Canada's banks during an economic downturn. A highly indebted Canadian consumer - along with elevated Canadian housing prices (notably in Vancouver and Toronto) - presents an increasing risk to Canadian banks' asset quality and profitability.

While housing prices have begun to cool due to policies put in place by regulators, household debt remains at record highs. The bulk of this debt is from mortgage loans, primarily issued by the six largest Canadian banks.

Helping to mitigate this risk - and limiting loss exposure for the banks - is the fact that insured mortgages (required for loans with an LTV above 80%) account for approximately 40% of Canadian mortgages within the large Canadian banks' mortgage portfolios. Additionally, the uninsured portions of the banks' mortgage portfolios are well collateralized with average LTVs near 55%.

Performance of Canadian mortgages continues to be robust with the Canadian Bankers Association reporting that only 0.24% of mortgages in Canada were 90 days or more delinquent as of November 2018. Delinquencies within Canada's largest province, Ontario, are even lower than the national average at 0.09%.

Aside from mortgages, Canadian consumer loan performance remains solid. Canadian credit card delinquencies have steadily declined from their financial crisis highs and remain near historic lows. Delinquent auto loans have modestly increased over the past few years but remain low: 0.97% in the fourth quarter of 2018 according to Equifax Canada. This compares to a 90-day delinquency rate of 4.5% for U.S. auto loans according to the Federal Reserve Bank of New York.

We acknowledge that the elevated level of Canadian consumer debt fueled by the low interest rate environment does pose increased potential adverse credit risk for Canadian banks in an economic downtown. Economic growth began slowing at the end of last year, but unemployment remains near historic lows. Low unemployment rates should continue to drive strong consumer loan performance. The Canadian economy also benefits from favorable demographic trends supported by large-scale, skilled immigration and expectations for the Bank of Canada to refrain from further interest rate increases over the near-term.

We believe the large Canadian banks are well positioned to handle potential credit impacts that may arise due to a highly indebted Canadian consumer base. The Canadian banking system remains among the strongest in the world with solid levels of capital and liquidity along with prudent underwriting standards. Asset quality and loss coverage metrics within the large Canadian banks are robust and we continue to see minimal evidence of material credit deterioration.

Sources:

Auto News Canada, Auto Loan Delinquency Rate Now Highest Since Great Recession, March 8, 2019

Bloomberg

Canadian Bankers Association, Number of Residential Mortgages In Arrears, March 22, 2019

Company reports: BMO Financial, CIBC, National Bank, Royal Bank of Canada, Scotiabank, TD Bank Group

Federal Reserve Bank of New York, Center for Microeconomic Data: Household Debt and Credit Report, Q418