IFRS & Mortgage Rates

IFRSIFRS. You’ll hear more about this acronym as time goes on. It stands for International Financial Reporting Standards and it’s basically a newly-adopted set of accounting rules.

The relevance here is how IFRS will impact Canadian mortgage rates.

The first effect of IFRS that we noticed was with Home Trust’s prime mortgage rates. Home’s “A” rates have soared to 70 basis points above the market. Home Trust President, Martin Reid, explained why.

Under IFRS, mortgages that are securitized must be reflected on a lender’s balance sheet. Prior to January 1, 2011 that was not the case. (IFRS securitization guidelines don’t take effect on the big banks until November 1 of this year.)

Once mortgages come on the balance sheet, a lender (if federally regulated) must allocate capital to those mortgages to meet the regulatory asset-to-capital multiple.

For giant banks, with gobs of surplus capital, this isn’t as big an issue. For smaller lenders, it’s a serious matter because it raises capital costs notably.

Home Trust, for example, has had to allocate capital where the return is greatest. In Home’s case, that means it’s now focusing on non-prime mortgages. In turn, Home had to raise pricing on its Accelerator line of prime mortgages to account for higher funding costs resulting from IFRS.

Reid says that IFRS “will impact mortgage pricing and filter down to the consumer.”  How much, he’s not sure.

Paradigm Quest’s John Bordignon, a capital markets expert, said the big banks will be impacted less than small lenders. That’s because they have considerable excess capital and they securitize a lower proportion of mortgages than do smaller lenders.

In the end, Bordignon suggests that mortgage rates may not rise that much as a result of IFRS. He says “the mortgage market has (already) built in 20-25 bps of additional spread in anticipation of it.”

Rob McLister, CMT

  1. I imagine this also affects many of the smaller C.U.’s and will probably continue to see further consolidation in that market?

  2. this reporting standard is counter-intuitive to securitization…big banks certainly have lots of capital but now they would be tying up precious capital for all securitized mortgages
    this will definitely affect mortgage pricing across the board and profit margins…which will push out smaller lenders.
    i’m curious to know the mechanics of a securitized mortgage and how it would be reported by CMHC and by an OSFI regulated entity under the new rule – double asset counting?

  3. Hi Banker,
    You may be right.
    Credit unions are required to shift to IFRS starting this year. Central 1, the central financial facility for BC and Ontario CUs says “While Central 1 will continue to provide access to (securitization) programs for credit unions, the role of MBS issuer and CHT seller will be assumed by credit unions themselves.” That seems like an extra challenge now for smaller CUs under IFRS…

  4. Rob, your a wealth of information, Good job. Do you agree that IFRS & Basel II changes strengthens our financial system by requiring increased capital held by all F.I.’s (not a bad thing unto itself), but going forward, such will likely suffocate both the chance for new start-ups and existing smaller FI’s that don’t have excessively strong balance sheets?
    Before anyone says, how is capital strengthening a bad thing?, remember, reduced competition is bad and Financial markets don’t usually collapse because of small FI’s. It’s nearly always the “too big to fails”.
    Rob, you raise an interesting side note on CUC (Credit Union Central’s) role in all of this. They support the smaller CU’s by providing cost effective shared banking infrastructure, support, pooled operating costs etc, but I heard whenever a CU turns to them to help raise liquidity shortfalls, the funding costs are prohibitively high.

  5. Hi Banker,
    You’re very kind, thank you. From a system-wide mortgage risk standpoint, the risk isn’t much different after IFRS. It’s mostly an accounting change. The one thing I’m worried about is the disproportionately onerous effect IFRS may have on smaller FIs. I’ve heard there is dialogue with OSFI as we speak about rethinking things like the impact on the asset-to-capital multiple for smaller FIs. Hopefully something comes of that.

  6. Agreed. Its all about economies of scale. The small FI’s are always guarded closely by the regulators because the small FI’s, CAMELS rating can change significantly just with a few defaulting mortgages/loans, low capital or difficulty raising profitable deposits.
    Definition of CAMELS Rating for viewers:

  7. Are you able to provide me with a good source of information in order to understand the issue of IFRS and securitization?
    Many thanks!

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