Moody’s Investors Service says that it has become increasingly concerned about Canadian household debt levels, and the possible implications for the big size banks if credit losses rise.
In a new report released Wednesday, the rating agency says that Canadian consumers have become more leveraged over the past several years, with household debt as a share of personal disposable income rising to a record 150.8% as of June 30 2011, “leaving themselves and therefore banks more susceptible to housing price corrections, interest rate shocks and other negative macroeconomic developments.”
While present asset quality trends remain benign, Moody’s says that if consumers take on more variable rate mortgages and other types of higher risk loans and become overleveraged, banks’ loss trends are likely to increase in the medium term.
Moreover, its analysis of the six large Canadian banks’ exposure to consumer debt shows clear distinctions between the banks’ strategic positioning against uninsured, and therefore higher risk, consumer exposures. “Should economic conditions deteriorate, consumer credit exposure will become a credit negative for the more aggressively positioned banks,” it says.
Of the six large banks, Moody’s analysis showed that at October 31, 2010, Royal Bank of Canada had the highest proportionate exposure to all types of uninsured consumer debt, at 24%, followed by Bank of Nova Scotia at 21%, and CIBC at 20%.
“RBC’s and BNS’s rankings arise primarily from their low use of mortgage insurance compared with peers. CIBC, on the other hand, while among the higher users of mortgage insurance, had a larger proportion of total Canadian consumer exposure as a percentage of total managed assets, as it has no retail franchise outside Canada,” it explains.
“While losses on these exposures have to date been modest, they could increase in the event of adverse macroeconomic developments, with the banks’ non-mortgage portfolios (e.g., lines of credit and credit cards) being first affected,” it says.
Moody’s notes that TD Bank has the highest exposure to uninsured nonmortgage debt among the banks, at 15%, which includes an estimated $7 billion of exposure related to its acquisition of MBNA Canada’s credit card business. National Bank of Canada and CIBC have the next highest exposures, at 13% and 12%, respectively, while RBC has 11%.
“While our findings do not have any immediate rating implications, they are credit negative particularly for the three banks with the highest proportionate exposure to all types of uninsured consumer debt, that is, RBC, BNS and CIBC,” Moody’s concludes. “An increase in any of these bank’s level of uninsured consumer debt, towards about 30% of total managed assets, especially in the context of deteriorating economic conditions, could negatively affect their asset quality and profitability, and thus place downward pressure on their ratings.”
The rating agency says it will update this analysis following the release of the banks’ fiscal year end results.