CIBC Predicts Another $19B In Debt Payments

Canadians have seen rent, food, and gas prices rise in the past year, and now rising mortgage payments await them. During the housing market frenzy of 2021 and 2022, many borrowers took out variable-rate mortgages with payments that could increase with the next Bank of Canada rate hike. 

Variable-rate mortgages usually have fixed payments (interest and principal get allocated according to the rate differences but monthly payment stays consistent), but rising interest rates will likely force many borrowers to have to increase their payment. Approximately 15% of Canadian mortgages fall into this category, which is about 750,000 mortgages nationwide.

Under Canadian lending rules, a "trigger rate" occurs when interest payments consume all the borrower's monthly mortgage payments. Typically, the lender will contact the borrower and offer them the option of increasing their monthly payment or making a lump sum payment.

Rabidoux et al. warn that borrowers might end up locking themselves into unnecessarily high rates if they switch to a fixed-rate mortgage. Between March 2021 and February 2022, Canadians took out $260B in variable-rate mortgages at an average interest rate of 1.58%. 

As soon as the Bank of Canada (BoC) raises its key lending rate by one percentage point, or 100 basis points in the language of the financial industry, the “average” of these mortgages will hit their trigger rates, said Rabidoux.

BoC has already raised its rate four times this year, taking it from 0.25% to 2.5% at the fastest pace in three decades. Despite this, few variable-rate loans have reached their trigger rates, and monthly payments have remained steady. 
It is expected that the BoC will raise its policy interest rate by 75 basis points on Sept. 7, but many think it will hike by 100 basis points. As prices rise, shoppers are already cutting back due to rising mortgage payments, which may lead to a recession in early 2023. 

The Royal Bank of Canada says about 80,000 mortgages will hit their trigger rate with the next few rate hikes. It expects the average payment increase to be $200 per month. All of these borrowers passed the mortgage stress test, which last year would have required them to qualify for a loan at 5.25%.

When interest rates are rising rapidly, a higher-than-normal share of mortgage borrowers are exposed to fluctuating interest payments from month to month.
As a result, some of these borrowers might panic and switch to a fixed-rate mortgage out of fear that rates will rise further. Rabidoux described this as a "self-induced payment shock to prevent a potential future payment shock."

At today's interest rates, locking in a fixed rate is a gamble. Interest rates are expected to fall from current levels in the long run, with at most a few more rate hikes from the Bank of Canada.

Aside from the impact on homeowners, many real estate watchers are concerned about the impact these "triggered" mortgages will have on a softening housing market. Owners, especially investor-owners, may be forced to put their properties on the market as a result of higher monthly payments, contributing to the housing shortage.

This could result in forced sales in the housing market and further downward pressure on property prices. As of 2019, private lenders account for a relatively small portion of Canada's mortgages, around 1%.

There is, however, a high concentration of private lenders in Ontario and British Columbia, with about 85% of private loans originated in those two provinces. So they stand to see more impact from distressed sales than other places.

In July, wages grew 5.2% year on year, according to Statistics Canada. Although that doesn't beat July's inflation of 7.6%, it helps with mortgage payments. Inflation's high rate is exactly why borrowers shouldn't expect last year's rock-bottom interest rates to return anytime soon.

Rising interest rates will affect mortgage borrowers most at renewal time, according to Bank of Montreal's third-quarter earnings call.

Over the next 12 months, $14 billion of uninsured assets will renew.

The Bank of Montreal insures 25% of their instalment RESL (Real Estate-Secured Lending) book; the renewals are spread out over time, with only 10% of their uninsured instalment RESL products up for renewal in the next 12 months, according to BMO's Chief Risk Officer Pat Cronin.

The average credit bureau score of Bank of Montreal's borrowers are 793, and the average loan to value is 48%. Less than 2% of its Canadian RESL book is to borrowers with a combination of a credit bureau score less than 680 and an LTV greater than 70%.”

According to the bank, variable-rate mortgage borrowers with fixed payments are most affected by rising rates through an extension of their amortization period until renewal. According to the bank's presentation to shareholders, the product reverts to the original amortization schedule at renewal, which may require additional payments.

From 79% a year ago, 60% of the bank's mortgage portfolio has an effective remaining amortization of fewer than 25 years.

In the past year, the Bank of Montreal's residential mortgage portfolio grew to $135.5 billion. In the quarter, the Bank set aside $136 Million as part of growing credit loss provisions. It was only $50 Million last quarter. 
 
CIBC predicts the Bank of Canada's next jumbo rate hike on September 7th will be its last for a while at another 75 basis points.

Researchers Benjamin Tal and Karyne Charbonneau predict the Bank of Canada will hike another 75 bps next week, then leave the overnight target at 3.25% "for the duration of 2023."

In 2022 and 2023, they see the 5-year bond yield averaging 2.45% and 2.3%, resulting in close to $19 billion in additional debt payments.

They wrote that out of $2.7 trillion in household debt, $650 billion (24%) face an increase in interest payments. The real show is about to begin. High borrowing costs are now being tested on a generation of Canadians.
 
Although interest rates are still relatively low by historical standards, "the entire pool of household debt was taken out in a low-interest rate environment."

"With an inflation rate not seen in decades, there is a legitimate reason to be concerned about consumer stability," they say. Households are more sensitive to higher rates than in the past because mortgage debt accumulated rapidly before and during the pandemic.

In terms of interest payments, 100 bps of rate tightening today is equivalent to 150 bps of hike in 2004.

Nevertheless, they argue that $300 billion in excess savings over the course of the pandemic will provide a cushion against higher interest rates.

According to CIBC, the central bank will not hike rates in 2023, but it will begin easing rates in 2024.

Inflation and rising rates combined will notably slow consumption, but Canadian households are equipped to keep consumption growing at a rate that will prevent the Bank of Canada from easing policy until 2023.
 
Home prices will "recalibrate" by 20-25%, says TD. According to a newly released report, prices "could" fall 20% to 25% peak-to-trough from 2022 to 2023.

National home prices would only partially retrace the 46% run-up over the pandemic, writes report author Rishi Sondhi. The forecast is more accurately described as a market re-calibration, rather than a severe decline.”

In British Columbia and Ontario, where price gains were strongest, steeper declines are expected, while Alberta, Quebec and the Atlantic region are expected to undergo more "middle-of-the-road retrenchments." Manitoba and Saskatchewan prices are expected to hold.
 
Recession forecasts: mild but unavoidable.

Bay Street economist David Rosenberg says rising interest rates will lead to a recession in Canada.

RBC first forecasted a recession in early July.

Desjardins wrote in a recent report that real GDP will slow and "ultimately contract" in the first half of 2023.

The Bank expects to start cutting interest rates in the second half of 2023, so this economic downturn should be short-lived. In early 2023, Canada may experience a mild recession.
 
Fed Chair Jerome Powell cautioned against premature rate cuts based on his view south of the border.

In a recent speech in Jackson Hole, Wyoming, he said restoring price stability would require some time. Policy should not be loosened prematurely, according to history."

Powell said the Federal Reserve must "keep at it until the job is done" to avoid a situation like the "multiple failed attempts to lower inflation in the 1970s."

In order to stem high inflation and bring it down to the low and stable levels that were normal until the spring of last year, he said, a lengthy period of very restrictive monetary policy was ultimately necessary. therefore he must act with resolve now to avoid the 1970s outcomes.

It is rare for the Bank of Canada to deviate from Federal Reserve monetary policy, which supports higher rates.

More than half of Canadians are worried about being able to afford their mortgage payments as interest rates rise. However, many aren't budgeting.

In a recent online survey from IG Wealth Management, a financial advising firm, only 39 percent of Canadians include mortgages in their monthly budgets.

In a survey of 1,590 adults between July 28 and Aug. 8, 67 percent reported finding budgets helpful to manage their monthly cash flow.

One third of Canadians have mortgages, which account for 42 percent of their monthly expenses.

Since mortgages are a "fixed cost," they are not likely to change each month, Prentiss Dantzler, assistant professor of sociology at the University of Toronto.
Canadians' costs of living have skyrocketed amid high inflation rates and another rate spike expected in September.

60 percent of Canadians worry about cutting costs to reduce their expenses, while 43 percent are unsure they will be able to pay their bills each month.
45% believe they will retire mortgage-free.

One in four Canadians admitted to taking on debt to cover their expenses, listing bills and living expenses as their top reasons.

A new survey conducted by Leger for Bloomberg and RATESDOTCA found that 81% of Canadians are concerned about inflation trends, while 10% are unable to handle further price increases. 89% of homeowners earning less than $60,000 a year say inflation trends pose a significant threat to their finances.

Those earning $60,000 - $100,000 annually (79%) and those earning more than $100,000 annually (77%) also expressed fears.  As a result of the surging cost of living, the Bank of Canada increased interest rates rapidly this year, including a full point in July, according to BNN Bloomberg. Mortgage renewals and variable-rate loans have been affected by that."

About 54% of Canadian homeowners said they could sustain themselves at current inflation levels for seven months or longer, while 13% said they could sustain themselves for one to six months. In addition, 23% questioned whether they could last under the current conditions.

A 7.6% annual spike in inflation was reported in July by Statistics Canada.
Has inflation peaked?
 
Perhaps, but in reality, nobody can predict things like price hysterias, a Putin meltdown, China and Taiwan conflicts or another pandemic, for example. 
 
For example, Taiwan's defences will be bolstered with more than $1 billion in new weapons and military logistics after House Speaker Nancy Pelosi visited Taipei.

A State Department spokesman said the U.S. also approved $665 million in logistics support contracts for Taiwan's surveillance radars. During the Biden administration, this package is expected to be the largest military sale to Taiwan.
 
Uncertainty leads people to expect the worst when the future is unclear. The rise in yields is partly due to investors selling bonds.
 
The BoC's (latest) Q4-2024 'return-to-target' CPI forecast suggests that inflation may persist for at least another two years. By contrast, the bond market is still predicting a rate cut by the end of next year. 
 
Perhaps, but in reality, nobody can predict things like price hysterias, a Putin meltdown, China and Taiwan conflicts or another pandemic, for example. 
 
For example, Taiwan's defences will be bolstered with more than $1 billion in new weapons and military logistics after House Speaker Nancy Pelosi visited Taipei.
​
A State Department spokesman said the U.S. also approved $665 million in logistics support contracts for Taiwan's surveillance radars. During the Biden administration, this package is expected to be the largest military sale to Taiwan.
 
Uncertainty leads people to expect the worst when the future is unclear. The rise in yields is partly due to investors selling bonds.
 
The BoC's (latest) Q4-2024 'return-to-target' CPI forecast suggests that inflation may persist for at least another two years. By contrast, the bond market is still predicting a rate cut by the end of next year. 
 
 
 





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