Consultation-FB“…Lenders have, as I’ve said in the past, no skin in the game and therefore the incentives are misaligned with good risk management.”

This quote, from CMHC CEO Evan Siddall, encapsulates policy-makers’ narrative on Canadian mortgage underwriting. This is what the public is reading about Canada’s housing market—and it worries them, but it shouldn’t.

(Siddall later told me that he misspoke, and that lenders do have skin in the game, but “not enough.”)

Siddall asserts that lenders are prone to moral hazard. “You would not design an insurance system with the insured having something more at risk.”

He adds, “Canada’s mortgage insurance system is one of very few, if any, insurance systems without a deductible.” He says our housing market is “not a well-designed system,” asserting that “a lender should not offload so much of its risk.”

“This is about aligning interests to face an unknown future with a more ‎robust system. It’s more about regime design, not current conditions.”

And so, he and the Department of Finance have what they think is a solution. After two years of CMHC preparing us for this inevitability, regulators have released a proposal whereby lenders eat more losses on government-guaranteed mortgages.

Here’s what we know about it so far, based on high-level industry conversations and yesterday’s announcement from the Department of Finance (DoF):

  • How risk sharing will likely work: Lenders would file a claim with the insurer when a borrower defaults, the insurer would pay 100% of the lender’s claim (if eligible) and then bill that lender for its share of the loss in the following quarter.
    • This would leave securitization investors insulated from risk, a wise move that avoids utter destruction of the NHA MBS market.
  • How much loss would lenders share: The amount would equal roughly 5% to 10% of the outstanding loan principal. That’s $15,000 to $30,000 on a $300,000 mortgage.
    • We’ll bet on the lower end of that 5-10% range for two reasons: a) Anywhere near 10% would be hugely disruptive for lenders, and b) regulators like to sometimes throw out big numbers so the market is thankful when they impose a smaller number.
  • How would it affect competition: The DoF writes, “Lender risk sharing could change competitive dynamics in the mortgage market.” Could? Whomever drafts this stuff has comedic talent. Reducing insurance coverage will hammer competition even further, potentially costing Canadians hundreds of millions in extra interest each year.
    • Here’s another statement from Friday’s release that might have been drafted by Captain Obvious: “Small lenders with fewer or less cost-competitive funding sources may…be less able than large lenders to absorb or pass on increased costs.”
      (I’m sure some policymakers would suggest we’re making implicit assumptions about the future here; that need not be true. But I don’t see how an RBC and a small monoline lender could possibly weather these changes equally.)
    • Insurers and funders buying mortgages will now have lender counterparty risk (i.e., risk that the lender won’t be able to pay its share of claims). Potential outcomes:
      • Insurers may increase premiums disproportionately for smaller, less capitalized lenders.
      • Funders may buy mortgages from smaller lenders at much less favourable prices, limiting their ability to compete.
    • How might consumers fare: Here’s what we expect:
      • Mortgage rates will shoot up as lenders try to offset this new cost, and as bank challengers become less able to undercut the banks.
      • Lending will partially dry up, or incur material surcharges, in rural, remote, high-unemployment or economically undiversified areas.
      • Insurance premiums may drop (one potential bright spot in all of this).
    • How much could rates jump: In short, meaningfully.
      • The DoF writes, “Preliminary analysis suggests the average increase in lender costs over a five-year period could be 20 to 30 basis points.1 (That’s over five years.)
      • Preliminary estimates from four lenders we spoke with are that the DoF’s estimates are laughably low, that the rate increase required to offset these changes is at least 15-20 basis each year.
      • The DoF suggests rates could rise more for “loans with lower credit scores in a region with historically higher loan losses.”
    • When would this take effect: We’ll get more clarity on this by Tuesday, but the final regs could be out before next summer, and it might take another 1-3 quarters to implement.


Is This All Justified?

Canadians are taking on too much debt. No question about it. And extreme housing prices in Toronto and Vancouver are flashing a red alert.

But this proposal isn’t about that. According to the feds, it’s about future underwriting quality and aligning lender incentives.

The government and CMHC charge that lenders don’t have enough reason to avoid risky lending. Yet, to the best of our knowledge, the Department of Finance has never publicly released any data to support this. 

In fact, CMHC’s own numbers peg insured NHA MBS arrears at a paltry 0.28% for banks (five times lower than in the U.S.), and a microscopically low 0.11% for mortgage finance companies (MFCs). 

The Charges Against Lenders

Officials claim that lenders aren’t sufficiently motivated to underwrite prudently, yet the government possesses the ultimate hammer already: It can deny insurance claims if lenders don’t underwrite to the exact specifications the DoF itself has created.

Officials say that lenders can’t be trusted to avoid moral hazard, but the government can easily compel regulated insurers to audit lenders and police underwriting effectiveness. Heck, if they’re not audited enough, audit them more.

Officials assert that arrears data are a “rear-view” indicator, but we’ve had decades of low arrears. How many years of rear-view indication do we need before we can start believing it?

Officials charge that the housing finance system hasn’t been tested yet, but what kind of test was the worst financial crisis since the Great Depression?

Officials warn that debt-to-income is at an all-time high, but lenders must already decline heavily indebted borrowers that don’t meet federal guidelines.

Officials downplay equity as a risk mitigator, but who loses money on a 75% LTV bulk insured mortgage?

Officials argue that MFCs get a free ride on taxpayers’ backs, but Ottawa is riding on lenders’ backs at the same time, through lender-paid insurance premiums, securitization guarantee fees, socioeconomic homeowner benefits and a more robust economy that generates higher tax revenue.

Officials charge that indebted borrowers are a risk to the mortgage system, but credit quality has soared since 2007 with 81% fewer sub-660 credit score borrowers, reports Genworth.

Officials suggest MFCs are “unregulated” and prone to fraud, but you don’t get arrears rates averaging 1 in 300 by turning a blind eye to fraud. (Of course, “unregulated” is a gross mischaracterization since, by virtue of their securitization activities, MFCs are subject to bank and insurer underwriting rules in B-20 and B-21.)

Officials argue that these moves encourage the further development of a private mortgage funding market, but where is this mythical market they speak of, what is Ottawa doing to cultivate it and how will it address the huge spread differences between bank-sponsored covered bonds and uninsured RMBS from lenders without investment grade credit ratings?

Officials say there’s excess risk to the economy, but withdrawing insurance support risks future liquidity crises, surging interest costs, less discretionary spending, employment losses in the economy’s #1 sector, a further entrenched bank oligopoly, falling equity in people’s #1 asset, wealth-loss effects and so much more.

Officials claim government-backed insurers have too much risk, but why not increase insurance premiums like every other insurance company in the world when risk is unacceptable? (Hint: It’s because insurance premiums are already actuarially too expensive for the true risk. That’s a fact by the way—if you believe CMHC’s own regulator-approved stress tests.)

Mandate Creep

The government has overstepped its mandate by stripping Canada’s world-class mortgage finance system of liquidity. Its incessant attacks on competition and mortgage choice can only result in higher costs for consumers, and the purported benefits don’t counterbalance these costs.

Consider taxpayers’ risk:

  • Ottawa guarantees roughly $774 billion of insured mortgages.
  • Arrears have averaged less than 1 in 300 (five times less than south of the border).
  • Average equity on CMHC’s insured mortgages is 46.8% (contrary to public perception, insured mortgages are not all high-ratio) and just 1 in 5 CMHC-insured borrowers currently have less than 20% equity.

Consider taxpayers’ reward:

  • CMHC has returned $20 billion in profit to taxpayers since 2006.
  • Insured lenders have saved consumers over $3 billion of interest in that time frame.

This is a question of cost-benefit, and Finance has simply not made its case. 

Suppose for a moment that Canada’s housing market gets annihilated. Imagine a U.S.-style housing catastrophe where an astronomical 6% of all prime insured mortgages go in arrears, with a 33% loss on each—again, insured mortgages have built-in equity buffers so 33% may not be realistic. That amounts to a $15-billion hit on insurers. (In reality we must assign a probability to a housing crash, so implied future losses are potentially less than this.)

But wait. CMHC alone has $16+ billion in capital plus more in unearned premiums. Moreover, Moody’s research pegs insurer losses in a U.S.-variety crash at less than half our estimate, or $6 billion.

Will a tail event burn through insurers’ capital someday? You bet your sweet bippy it will, just like the most expensive hurricane of all time (Katrina) ate a chunk of Allstate and State Farm’s capital. But you don’t complain about tail events if you’re in the insurance business. You price for them.

So let’s review. The current system has yielded over $23 billion in benefits to Canadian families and, housing armageddon notwithstanding, nothing is coming out of taxpayers’ pockets. 

Are Regulators Pulling the Wool Over Canadians…?

Objective data provides no economic rationale to dismantle what is arguably the most stable housing finance system in the world. Loss sharing is “a solution in search of a problem,” explains First National’s Stephen Smith, and he’s dead on.

Even banks—who could gain on rivals if this rule passes—challenge Ottawa’s rationale. “We don’t understand what a deductible is intended to achieve as a policy outcome,” Canadian Bankers Association policy expert Darren Hannah said. “If it’s supposed to be something to improve the quality of underwriting, well the quality of underwriting is already very strong.”

And, by the way, the government is not proposing “risk sharing” here. It’s proposing “loss sharing.” There’s a difference, because arguing that lenders incur no risk is an uninformed position that ignores their exposure to claims denial, loss of “approved-lender” status, loss of funders, loss of securitization conduits, loss of investors, losses for default management costs, loss of irrecoverable lender-paid conventional insurance premiums and loss of vital renewal and servicing revenue.

Penalizing lenders and consumers will not reduce defaults materially because lenders themselves are not a significant reason why borrowers default. Defaults are a function of unemployment, economic shocks, housing price shocks, overindebtedness, personal disposable income, interest rates, borrower confidence, loan-to-value ratio, loan amount, loan purpose, mortgage age, mortgage term and rate type—most of which can be underwritten for.

If a small group of mostly unelected policy-makers want to nonetheless force Canadians to pay thousands more for a mortgage, at least foster securitization alternatives that alleviate the disproportionate burden on small and mid-size lenders, and preserve consumer savings through competition. 

As it stands, the DoF is picking favourites, issuing press releases embracing competition while simultaneously destroying it, and costing consumers far more than they’ll ever save.


Sidebar: Yours truly doesn’t purport to be Merlin the Mortgage Policy Wizard and have all the answers. So if you see things differently, give us your take here. Just one humble request, and that is to keep posts civil and supported by fact. We won’t waste readers’ time by publishing comments that are rude or baseless.

Sidebar 2: Special thanks to the class acts on the Department of Finance and CMHC media relations teams. We’ve widely and publicly questioned their organizations’ policy choices but the professional folks over there always cooperate when we need answers.

1 A very rough estimate of the amount rates have fallen due to competition from brokers and insured lenders, and $1.8 trillion in mortgage volume over the past decade. A Bank of Canada study in 2011 found that “the average impact of a mortgage broker is to reduce rates by 17.5 basis points.” This, interestingly, approximates the broker’s advertised savings today (i.e., if you compare the lowest advertised 5-year bank rate, minus 10 bps discretion, and the average rate advertised by 100 of Canada’s most prominent mortgage brokers, as tracked by


Disaster recovery plan FBRandom thoughts on this week’s mortgage rule madness…

Who’s Left Standing in December

It’s unclear which insured-lenders will still do refinances, rentals, super-jumbos ($1 million+) and 26- to 35-year amortizations come December. As we’ve seen, some lenders have already announced their (hopefully temporary) withdrawal from these categories. Lenders I spoke with today were scurrying to arrange purchase agreements with balance sheet lenders to create liquidity for these mortgages. It’s going to be a week or two before we know the bank’s appetite. They won’t rush to load up their balance sheets with non-standard mortgages. That, we know.


The Demand Effect

Will Dunning, chief economist at Mortgage Professionals Canada, tells BNN, wait until December’s CREA housing data is in before speculating on how the DoF’s rules will sway home prices. That interview.


Market Reaction T + 2

It’s 2/365ths A.D. (After Debacle), and investors have spoken again. For a second day they dumped stock in insurance-dependent lenders. In the process, untold millions in market value were obliterated.

These are ultra-high-quality lenders, managed by good, honest people, underwriting rock-solid low-arrears mortgages and saving Canadians billions (literally). They don’t deserve this in any way.

Lender stocks II

Most banks are outperforming the market.

Bank stocks II

Time for Perspective

As bad as these changes were for consumers and lenders, we all know that Canadian lenders are run by extremely resourceful people. Some lenders may die off or consolidate if the Department of Finance doesn’t relent on its decree, but many will find a way to keep doing these uninsurable deals at higher interest rates.

I had a chat with Gary Mauris tonight, head of Canada’s largest broker network. Here was his take:

I’d like to suggest and encourage all industry participants to exercise patience until we have clear, accurate information and the industry has done a thorough evaluation of the material impact. We as an industry have gone through numerous policy changes in the past, and have weathered the global credit crisis. These regulatory changes will no doubt be disruptive in the short term, but our industry is resilient and we will adapt and continue the valuable service that we provide Canadians. It’s important that we continue to focus on all the positives of our industry and avoid getting caught up in the negative rhetoric that only draws attention and damages the good work and many advances that this industry has achieved. Anytime there are headwinds in an industry, there are also opportunities. Now is the time to highlight our expertise, help the public navigate the changes and be financial thought leaders during this time of temporary uncertainty.



Stocks downIf you want to know the winners and losers in Monday’s surprise mortgage rule announcement, peek at lenders’ stock performance.

Traders collectively decided, at least in the short-term, that the visible future is dimmer for second-tier lenders than for their big bank competitors.

The stock prices for most Big Bank challengers took it on the chin today. Here’s the scorecard for a sampling of them, as of Tuesday’s close:

Lender stocks

Most major banks performed decidedly better:

Bank stocks

Stock prices are partly emotion-driven so let’s see how things shake out in the next month or so. But the immediate opinion of those with money on the line is that Canada’s Big 6 are less impacted by the coming insurance restrictions.

More fallout from earlier today:

  • Investors handed Genworth (Canada’s second largest default insurer) its biggest intraday selloff since August 2009. The company estimated that:
    • Roughly a third of transactionally insured mortgages, mostly for first-time homebuyers, would “have difficulty meeting the [government’s] new required debt service test.
    • About half of its “total portfolio new insurance written would no longer be eligible for mortgage insurance under the new low-ratio mortgage insurance requirements.”
  • Multiple monoline lenders (including some of the biggest) announced that they were suspending new refinance, rental and/or business-for-self (BFS) originations. Expect more of that to come, unfortunately. These companies are now left wondering how they’re going to finance mortgages that can no longer be insured (mortgage buyers prefer insured product). They simply cannot lend under that uncertainty.

By Steve Huebl & Rob McLister


Sledgehammer FBThe Feds clearly wanted to crack the housing market, and they may have finally done it, with a sledgehammer.

New Department of Finance (DoF) rules will hit the mortgage market hard, but consumers will take the brunt of the blow. The two big changes:

1) Effective Oct. 17, the qualification rate will now apply to all high-ratio insured mortgages, even 5-year fixed terms. On Nov. 30 it applies to insured low-LTV mortgages as well.

2) Regulators are banning a wide array of mortgages from being insured, effective Nov. 30.

One big non-bank lender didn’t mince words when describing today’s DoF’s announcement. “This is a crisis,” the executive told CMT. The lender estimates that up to 40% of its insured volume could vaporize near-term because of these rules. Even if it’s half that among non-banks industry-wide, this appears to be a devastating blow to mortgage competition in Canada.

Background: Non-bank lenders rely on default insurance because it (in the DoF’s words) “supports lender access to mortgage funding through government-sponsored securitization programs.” Banks don’t depend on insurance to the same extent (at least not on conventional mortgages) because they don’t have to sell their loans to investors.

You’d think that with such a drastic policy change that stakeholders would be thoroughly consulted. Nope. Lenders I spoke with had not even a hint this was coming.

So what happens now? Here are our top 10 predictions:

    1. Housing prices will tumble as a sizable minority of first-time buyers and those with higher GDS/TDS ratios no longer qualify for the mortgage amount they want.
      • Forcing all insured borrowers to prove they can afford a payment at the posted rate (4.64%) will remove up to 15-20% of buyers from the market, say lenders.  
      • “This will impact more than 50% of borrowers’ [mortgage] limits, among those who select 5-year fixed rates,” said Mortgage Planner Calum Ross. “As unpopular as this may be to say, however, I fundamentally believe this is the right move by regulators. The fact they allowed such a large disparity on the qualifying rate for such a long time was, in my opinion, not a prudent lending decision.”
      • Others argue that 5-year fixed borrowers with 10%+ down payments could have refinanced and re-amortized after five years anyhow (to reduce their payments and mitigate a 200+ bps rate increase). Mind you, a 200+ bps hike in the next five years would probably cause a recession, so it’s unlikely at best.)
    2. Non-deposit-taking lenders could be forced to sell a wide array of loans to balance sheet lenders at a premium. They’ll be forced to pass those funding cost hikes directly through to consumers. These include refinances, amortizations over 25 years, non-owner-occupied properties and mortgages over $1 million—all the stuff that can no longer be insured and securitized.
    3. Broker market share will fall.
      • It’s Christmas in October for the banks. Among other things, they’ll gain refinance, jumbo mortgage and rental business from the monolines.
      • That business boost will reduce their reliance on the broker market. In fact, don’t be surprised if a Big 6 bank exits the broker channel by this time next year.
    4. Mortgage availability will drop in high-valued regions like Vancouver and Toronto and rates will rise nationally.
      • This liquidity drop is partly because of the insurance prohibitions, and partly because of higher capital requirements for insurers. This latter measure was announced previously and is expected to take effect in Q1. Word on the street is that bulk insurance premiums (which average roughly 40+ bps now) could at least double.
      • As competitors raise rates, banks will likely take that opportunity to hike their own rates. And they’ll probably do it nationally because regional pricing presents internal challenges.
    5. Banks will also have to qualify conventional borrowers at the posted rate on all terms.
      • OSFI tells us, “…Our update to [Guideline] B-20 is going to reflect the announcement made by the Department of Finance today about [the] “Mortgage rate stress test…” But it adds, “We are still reviewing the guideline, and have not yet made decisions in this regard.”
      • That suggests monolines could potentially be at a disadvantage for a while, unless OSFI encourages banks to adopt a standard 5-year posted qualifying rate sooner.
    6. Market share for near-prime lenders will rise yet again, especially for refinances.
      • Consumers, of course, will pay significantly higher interest for these lenders’ flexibilities.
    7. There will be a mad dash to refinance under the old rules prior to October 17th, when the new qualification rate comes into force.
      • Expect most lenders to stop taking such deals by mid-next week.
    8. We’ll start hearing more economists forecast a Bank of Canada rate cut due to the GDP hit from these rules.
      • Two big pillars of Canada’s growth, oil and housing are now on the ropes.
      • As we’ve written before, this is probably the worst time to send a message to foreign investors that they’re not welcome in Canada’s housing market. Canada needs their investment and most politicians and policy-makers appear shockingly blind to this.)
    9. Non-balance sheet lenders could apply rate premiums to amortizations over 25 years since they can no longer be insured. That’s no small point. Mortgages with amortizations longer than 25 years accounted for over half of all portfolio insurance underwritten by CMHC through June.
    10. Morneau

      Finance Minister Bill Morneau

      MBS yields will fall as supply drops and pool risk improves (more on that from Bloomberg). Yay, some good news in all this.

In the long run, the DoF’s move adds housing stability (at what cost is the question). But most of the 70% of existing homeowners who value their equity may well curse regulators in the short run.

The sad part is that borrowers in the majority of the country are clearly paying a price for Vancouver and Toronto’s excesses. “What I find most frustrating is that this change penalizes the wrong segments of the market,” said Tyler Hildebrand, a mortgage planner at One St. Mortgage. “Housing policy continues to be set on a national basis without any consideration for regional implications. Real estate is a local business; it should be regulated on a regional basis.”

Of course, the government also announced it’ll prevent non-residents from claiming the capital gains exemption—which is primarily targeted at Vancouver and Toronto. (This is a reasonable move. Here are more details on it). But this measure was a distraction from the other rule changes, and trivial by comparison. Non-resident buyers who buy to flip tax-free are simply not a major price driver nationwide. 

All of this adds to the layers of mortgage regulations imposed since 2008. And, to make matters worse for the lending industry, the Department of Finance has reaffirmed its decision to evaluate lender risk sharing. Charging lenders deductibles on default insurance claims could be an utter disaster for less capitalized non-bank lenders (and hence mortgage competition and consumers), depending on how it’s implemented.

With mortgage tightening finally starting to impact high-valued markets, this new round of rules has come too late, with too little forethought and too many consumer repercussions. It’s effects are so wide-reaching, so sudden, that something has me thinking it’s a conspiracy against non-bank lenders.

But no. I trust Canada’s regulatory system much more than that…I think.


Canada’s banking regulator wants mortgage default insurers to put more money between themselves and taxpayers, especially for mortgages they insure in riskier cities.

The new rules, detailed today by OSFI, will force government-backed insurers to bolster their capital on mortgages in certain areas. Effective January 1, 2017, this could make mortgages more expensive for insurers and consumers alike.

“When house prices are high relative to borrower incomes, the new framework will require that more capital be set aside,” said Superintendent Jeremy Rudin. 

In a report today, BMO Capital Markets referred to these changes as “modestly tougher capital requirements.” It said that “through a phase-in mechanism” the new rules “essentially apply to new business only.”

You can bet your last basis point that insurers are already looking at ways to offset these new costs. Borrowers could be stuck with steeper premiums, higher interest rates and/or more rigid underwriting. That’s especially true if they have:

  • Lower credit scores
  • Higher loan-to-values
  • Longer amortizations.

I’m hearing insiders speculate that this could even lead to regional premium variations. So I asked OSFI if it’s possible that a borrower in Toronto might be asked to pay a higher insurance premium than a borrower in, say, London, Ontario. OSFI replied: “It is up to the institutions to determine how they will manage the new requirements.”

As of Q2, Toronto, Vancouver, Edmonton and Calgary would have exceeded OSFI’s valuation thresholds and forced insurers to cough up more capital on mortgages in those cities. OSFI is using census metropolitan areas (CMAs) to define the regional boundaries.

The following map shows Toronto’s CMA, for example. If regional variations came to reality, someone in Guelph, Barrie and Oshawa could pay smaller insurance premiums than borrowers in Toronto, Mississauga and Markham.

Toronto CMA. StatsCan

Genworth Canada, the country’s largest private insurer, is already setting expectations for higher premiums. In a statement today it said:

The Company expects that the capital required for certain loan-to-value categories may increase and this could lead to a corresponding increase in premium rates. In addition, for those regions that are impacted by the supplementary capital, premium rates could also increase.

CMHC reviews premiums annually. We wouldn’t be surprised if it announces higher premiums by the first few months in 2017 or before.

Even premiums on low-ratio mortgages may rise. That could be a problem for certain monoline lenders who depend on buying transactional insurance to fund (securitize) their mortgages. More expensive low-ratio premiums could put them at a further competitive disadvantage to big banks that don’t rely on low-ratio transactional insurance.

OSFI confirmed for us that, “The same calculation formulas will be used for all mortgages whether insured individually or as part of a portfolio.”

Rising premiums aren’t the only fallout here. It could also get incrementally tougher for some borrowers to get an insured mortgage. Insurers may now try even harder not to incur losses on mortgages that entail higher capital costs. That could mean marginally more declines and fewer guideline exceptions.

In some cases, however, insured mortgages might actually require less capital than today. OSFI says, “All else being equal, the capital requirement for mortgages associated with borrowers with better credit, and that pay their mortgages off quickly, will be lower. Also, under the new framework, mortgage insurers will no longer have to hold capital for mortgages that have been fully paid off.”

OSFI’s proposed changes are up for public comment until October 21. 


Canada’s banking regulator has released revised capital guidelines for mortgage lenders. Just what every lender loves to hear, right?

Once implemented, federally regulated lenders will have to set aside more capital in certain cases to shield them from a potential market blowup. The new rules kick in November 1 for the big banks.

“Under the proposed revised guideline, the amount of capital required to be held by the institutions is not expected to change significantly,” assured a spokesperson. “These changes aim to ensure that capital requirements continue to reflect underlying risks and developments in the financial industry.”

One interesting change is OSFI’s new “countercyclical buffer” policy. That’s where banks must put aside more capital if the market gets abnormally risky. OSFI says the Bank of Canada’s Financial System Review (FSR) will, in part, help determine if such buffers are necessary. Banks will get 6-12 months’ notice before these countercyclical buffer increases take effect.

“…in Canada, under the current requirements we do not require financial institutions to have a countercyclical buffer,” the spokesperson said. “OSFI does not feel it is necessary to activate a countercyclical buffer based on the principles outlined in the Capital Adequacy Requirements Guideline (CAR).”

In terms of securitization, an issue near and dear to broker lenders, OSFI says, “The revisions to…CAR should not have an impact on mortgage lenders’ securitization abilities.”

As for underwriting, OSFI told CMT, “Through the revised CAR guideline, OSFI is clarifying the conditions under which risk mitigation benefits of mortgage insurance are recognized for regulatory capital purposes.” In other words, if lenders don’t carefully heed insurers’ underwriting and loan requirements, that could “require OSFI to ask financial institutions to implement remedial measures,” which could include coughing up even more capital, suggests the regulator.

OSFIOSFI has been keeping busy in the past year. On July 7, it announced it was tightening its “supervisory expectations for mortgage underwriting in light of the evolving housing market.”

It also made clear that it “will be placing a greater emphasis on confirming that controls and risk management practices of mortgage lenders and mortgage insurers are sound and consistent with the principles underpinned by OSFI Guideline B-20: Residential Mortgage Underwriting Practices and Procedures (and, where applicable, OSFI Guideline B-21 – Residential Mortgage Insurance Underwriting Practices and Procedures).”

In April, OSFI introduced a higher floor on capital requirements to “take into account periods where the value of properties pledged as collateral becomes less certain.” Those changes are meant to be “risk sensitive and therefore reflective of regional variation in risk,” it said in December.

What’s the goal of all this? To strengthen the measurement of capital held by the major banks, and better position them to withstand potential losses.

The net effect to mortgage shoppers remains to be seen. Our money is on banks incrementally tightening lending qualifications and slightly increasing mortgage rates to offset their cost of compliance.



As we like to say around here, it’s good to be a bank. Reason #188 (or whatever number we’re up to now) is covered bonds. Only seven lenders in Canada can issue covered bonds, and six of them are major banks.

Who should care about covered bonds?

Any mortgagor with at least 20% down who prefers a lower rate.

Covered bonds (CBs) are a low-cost way to raise mortgage capital, which the lender (issuer) can then lend out to borrowers. Essentially, CBs are just packaged up pools of uninsured mortgages that mega-lenders sell off to investors.

Investors like CBs because:

  • the bonds are “covered” (backed) not only by the mortgages, but with the full faith and credit of the lender itself
  • the mortgage collateral is segregated in case the bank ever goes belly up
  • the bonds are over-collateralized by about 5-10% (i.e., issuers back them with more mortgages than necessary)
  • all mortgages have at least 20% equity, resulting in small default rates
  • mortgages are generally removed from the cover pool if they’re over two months delinquent (and almost certainly if 90-days+ delinquent, due to the asset coverage test issuers must meet)
  • investors can rely on Canada’s solid CB legal framework
  • CBs are rated AAA, the highest rating possible (in fact, Fitch’s triple-A rating even factors in the risk of a 25% plunge in home prices)

All of this makes covered bonds a tasty treat to yield hungry high-quality bond investors.


Demand is off the charts in Europe, where (get this) our banks are issuing CBs at just a fraction above 0%! That’s possible because CBs are relative bargains versus European bonds, which yield near/below 0%. Bloomberg calls it a “covered bond boom,” citing a 37% ($7.2 billion) increase in Canadian issuance versus last year—a record pace.

CB sales would be even higher were it not for regulators preventing banks from issuing more than 4% of their assets in covereds. Banking regulator OSFI’s covered bond issuance limit is “extremely low compared to other developed nations,” says C.D. Howe housing watchdog Finn Poschmann. In most advanced countries there is either no limit at all, or it’s much higher (e.g., 8-10%).

Raising Canada’s 4% cap needs to be an OSFI priority. With all the regulation Ottawa has thrown at banks since the credit crisis, hiking the issuance limit is a safe way for policy-makers to loosen the noose. Doing so would pose no appreciable risk to taxpayers (the government doesn’t guarantee CBs like it does Canada Mortgage Bonds and mortgage-backed-securities). Moreover, while risk to bank depositors would theoretically increase (since CBs can’t be liquidated for depositors in a bank insolvency), a slight deposit insurance hike could offset that risk.

The benefits to borrowers would be measurable. Banks would have more international liquidity for their mortgages, which could directly result in lower interest costs and less pressure on banks to boost fees.

Granted, this idea may be a political hot potato at the moment. Daily headlines on housing overvaluation won’t make raising CB limits OSFI’s top priority. But regulators do a lot of taking, and sometimes they have to give a little too. A CB issuance policy that’s closer to international standards would be a net win for families slaving to pay their mortgage. To the extent the limit can be safely increased, policy-makers should help Canadians keep more money in their pockets.


B.C.’s mortgage regulator confirmed today that it is moving forward with its proposal to require brokers there to publicly disclose compensation details, possibly as early as this summer.

“My office is proceeding with plans to implement improved disclosure measures for mortgage brokers in British Columbia,” Carolyn Rogers, Registrar of Mortgage Brokers and CEO at FICOM, said in an email sent to media.

“We have reviewed feedback received from industry in response to the open letter sent in January and appreciate all the comments. I have asked the staff to begin work on the implementation details, and that work is underway.”

Since FICOM proposed the changes last fall, brokers from B.C. and across Canada have been vocal in their opposition to the plan. They contend that the amount of money a broker earns on a deal is of little value to consumers without consumer education or context, and actually confuses some consumers into choosing higher-cost financing.

Broker trade groups Mortgage Professionals Canada and MBABC have taken the position that the changes will harm the industry and consumers, and both submitted written comments to FICOM.

“In our continued discussions with FICOM, we always understood that their intention was to proceed with some form of enhanced disclosure requirement,” said Paul Taylor, CEO of Mortgage Professionals Canada. “The consultation was, to our minds, a means for FICOM to gauge our industry’s appetite for, and solicit suggestions and feedback on, various methods to achieve their stated goal of making consumers aware of any potential conflicts of interest that may arise. As such, the comments made by Caroline Rogers do not surprise us.”

Taylor added that they will continue discussions with FICOM and “wait to see what the final requirements are once released. At this point it would be premature to make any statement regarding the requirements because they have not yet been prescribed.”

FICOM says it will release more details in the next 30 to 60 days, and that it expects a transition period of “at least several months” once its disclosure plan is released.

“My office continues to welcome feedback from industry on implementation and I have received a number of offers in this regard that we will be following up on,” Rogers added.

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Brokers Showing Their Hands. The Repercussions.

Explicit Compensation Disclosure – Part II

FICOM Proposes More Compensation Transparency



Showing cards FBThe public is increasingly aware of what mortgage brokers make per deal. And now, courtesy of pending regulatory change, they’re about to become even more aware.

Should that concern you as a broker?

If you like making full commissions, you bet.

Everyone from the CBC and Globe and Mail to trade magazines and consumer forums have published how FICOM (B.C.’s broker regulator) wants to force brokers to reveal their compensation (more on that). In time, other provinces may follow.

What Happens Next

If/when these rules pass, it could take just a few years for a critical mass of borrowers to realize: a) how, and how much, brokers are paid; and b) how they can use that knowledge to negotiate lower mortgage rates.

As this information comes to light, savvy price-shopping consumers will have a field day (savvy being the key word; more on that below). It’s kind of like knowing your car dealer’s invoice cost. It provides a basis for negotiation.

For many brokers, that is unequivocally a problem, a big problem. Tamsin McMahon at the Globe writes, “traditional brokers…argue that revealing their commissions will push clients toward discount brokers offering the lowest fees and rates.” You better believe it will.

Countless borrowers will gravitate to the obvious savings and increasingly opt for brokers who cough up more of their commissions. Who wouldn’t want to save an extra $1,000 or $2,000 in interest?

Where Things Take a Wrong Turn

Choosing the right mortgage isn’t just about the obvious savings. Anyone can compare a three-digit number.

Minimizing one’s borrowing cost relies on finding the unobvious savings, for that has the biggest potential impact on borrowing cost.

Unobvious savings come from:

  • more flexibility (e.g., not having refinance restrictions when you need to refinance, blend and increase restrictions when you need to borrow more, insufficient porting timeframes when you need to port, etc.)
  • lower fees (e.g., avoiding or minimizing prepayment charges, legal fees, appraisal fees, discharge fees, reinvestment fees, title insurance fees, credit line fees, etc.)
  • better strategies (e.g., optimal term selection based on one’s family, employment and financial circumstances, refinancing tactics to lower overall interest expense, early renewal to lock in or average down on one’s interest rate, timing one’s application to get better rates, prudently utilizing debt to invest, structuring rental portfolios to maximize future financing options, etc.)

Unobvious savings come from detailed product comparisons and careful client analysis. Will deep discount brokers, who typically can’t afford to spend 3 to 4+ hours advising clients, offer this same degree of counsel? Likely not, at least not one-on-one.

And if you’re a well-qualified, experienced, financially savvy mortgagor, you may not even care. You might save just as much with that no-frills online rate you found yourself. But that’s not the majority. There’s a reason why the majority of investors prefer advice, despite 30 years of online discount stockbrokering. Likewise, most mortgage consumers want and need guidance. They don’t have the time, skill or inclination to learn the lingo and make detailed comparisons of mortgage features and restrictions.

FICOM’s plan puts online discounters in the catbird’s seat. “It’s really simple,” Ron Butler told the Globe. “I operate on one-third the income of the average mortgage broker, so I don’t mind it being showed to people.”

For the most part, this author (who also has an online mortgage business) doesn’t mind either. For one, brokers should have nothing to hide when it comes to compensation. And second, FICOM’s rule will boost volume for Internet mortgage models materially, for at least a few years.

Ultimately, however, compensation disclosure will lead to bigger buydowns and it will drive down commissions industry-wide—faster than the Internet alone would have done.

This worries more than a few broker network bosses. Any business that takes a percentage of agent commissions—as opposed to a flat fee—is destined to take a haircut.

What’s Wrong With FICOM’s Plan

There is nothing inherently wrong with more disclosure. Various professions disclose their pay in black and white. But with most other businesses, there is less chance of people drawing conclusions about the product/service based on the compensation of the salesperson.

For example, all traditional realtors in a given province make about the same commission percentage. Knowing a buyer’s agent makes 2.5%, for example, shouldn’t cause you to doubt that realtor’s recommendations. The market, not the realtor, sets prices and their commission percentage doesn’t increase if they sell a higher-priced home.

With mortgages, however, compensation varies and is directly linked to price (the rate), term, short-term lender promotions, etc. Knowing the originator’s compensation alone tells you nothing about that mortgage. At any given time the best mortgage can pay the highest commissions and the worst mortgage can pay the lowest commissions, or vice versa. Not surprisingly, research shows that choosing a mortgage based on originator compensation can lead to costly mistakes.

It’s a Start

FICOM’s plan is on the right track. There is no question that a minority of brokers sell worse products for greater personal gain, and we’ve argued for years that something should be done about it.

But implementing this rule, as is, would be detrimental to hundreds of thousands of Canadians. Its flaws first need to be addressed.

For example:

  • It proposes disclosure of all economic benefits to the dollar. How do brokers know what they’ll be paid when lender bonuses are often contingent on future volumes?
  • It mandates this disclosure, but arms consumers with no information to interpret the data.
    • How do average consumers know if a 110 bps finder’s fee plus 7.5 basis points efficiency bonus plus $175 marketing dollars is reasonable for a 5-year fixed?
    • How do consumers know if their broker could have sold a lower rate for a similar product, and still made a normal commission?
    • How would consumers know if a mortgage that generated a lower commission actually entailed the lowest cost of borrowing?

If FICOM could provide benchmarks for these comparisons, that would be useful. That would put this disclosure in context. If FICOM had clear suitability guidelines, that would reduce self-interested mortgage recommendations.

Without this information, FICOM is delivering but one thing to consumers: more ammunition to negotiate rates. FICOM’s actions will expedite commission reductions in the mortgage broker business. In turn, brokers will need to close more deals to earn the same living. That means less incentive to spend 3-4 hours counselling clients and poorer choices for consumers who rely on that advice. That shouldn’t be a regulator’s decision to make, not unless their solution is bulletproof.

Only a minority of knowledgeable consumers with negotiation skills will benefit from this policy change, to the detriment of less educated consumers who arguably need the most protection. The proposed rule, as is, is not the answer. It is like a shovel with no handle, an incomplete tool.

Sidebar: Today, February 20, is the last day to send FICOM comments on these rules. You can do so at



FT buyers FBThe days of buying near-million-dollar homes with 5% down are officially over.

The new minimum equity rules for purchases between $500,000 and $1 million began Monday. The regs now require 5% down on the first $500,000 and 10% down for the remaining portion. As before, purchases of $1 million+ still require at least 20% down (if you want the best rates).

This news was all over the press today, as expected. One of the prominent questions was, how will young buyers fare?

Some, like this broker, suggested that first-timers are the losers, and that the market “didn’t need” this rule. At the very least, that’s debatable.

For one thing, we know that less than 1 in 10 rookie buyers purchase homes over $500,000. Of the minority who do, we’d guesstimate that somewhere around half have down payments of at least 7.5% (the most a qualified borrower would need under the new rules). That’s based on the fact that almost 4 in 10 first-time buyers already put down 20% or more, says Mortgage Professionals Canada.

Of those who are shy the extra 0.1% to 2.5% of equity, many will tap their parents for more cash, some will use other debt sources and some will just defer their purchase 6-18 months or so, which may not be the worst decision as we watch how housing markets react to Canada’s economic challenges.

On the question of whether the change was needed, this rule wasn’t so much about slowing the housing market. No, policy-makers were more focused on limiting the federal government’s insured mortgage exposure. And, of all the ways they could have done that (increasing down payments to a flat 10%, shortening amortizations further, lowering debt ratio limits, etc), this was one of the most buyer- and industry-friendly moves they could have made. In a country where people earning $100,000 can’t buy a house in our biggest cities, and debt ratios keep on climbing, the Department of Finance did the right thing.