Banks in a handful of “AAA” rated countries, including Canada, are facing rising risks from the household sector, says Fitch Ratings. But the agency’s stress tests find that the banks’ ratings should hold up relatively well, even if faced with a severe downturn and rising losses.
In a new report, Fitch said banks in Canada, Australia, Norway and Sweden face rising risks from high household debt levels and slowing housing markets, as they are “among the world’s most exposed to residential mortgage lending.”
Additionally, their reliance on wholesale funding can increase their vulnerability during a time of market stress, the rating agency noted.
Fitch said it expects modest falls in home prices in the four countries over the next two years, and said banks may face higher credit losses, particularly if unemployment increases as economic conditions deteriorate.
However, it also said it expects the major banks to remain resilient in the face of higher credit losses.
“Proactive policy-setting in the form of targeted macro-prudential policies and increasing supervisory scrutiny have reduced vulnerabilities and mitigate rising macro risks. Increased capital requirements have improved major banks’ resilience to macroeconomic risks,” it said.
Indeed, Fitch reported that its stress test for Canada (and regulatory testing in the three other countries) demonstrates the “banks’ resilience to plausible but harsh scenarios.”
Stress testing based on economic downturns, coupled with a spike in unemployment and steep falls in house prices found that each banking sector’s common equity Tier 1 ratio fell by about three percentage points, Fitch said.
“We would not expect widespread multi-notch bank downgrades given this resilience. Average capital ratios did not fall significantly below regulatory minimums under the stress tests, despite their severity. However, resilience varies between banks, and their ratings could be affected differently,” Fitch concluded.