Concept of real estate, mortgage and lease

Canadian credit unions and caisses populaires will benefit from higher interest rates, boosting their net interest margins (NIM) on loan portfolios, but could face headwinds if rising carrying costs put pressure on mortgage borrowers, DBRS Morningstar says.

“Although credit unions and caisses populaires generate sufficient earnings to readily absorb provisions for credit losses, they face a challenging macroeconomic environment moving forward,” the DBRS report released Wednesday said.

“Residential mortgages represent over half of total loans, and rapid and aggressive interest rate hikes have led to a housing market downturn.”

As at the end of fiscal 2021, credit union loan books consisted of 55.5% residential mortgages, representing a 14% share of the overall Canadian residential mortgage market. The remainder of the credit union book was made of business and commercial loans (31.7%), consumer loans (6.7%) and agricultural loans (6.0%).

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Asset quality metrics remained strong, the report said, but “modest deterioration is expected as credit conditions normalize and could be magnified if borrowers struggle with higher mortgage carrying costs.”

The report characterized the risk credit unions face from a deteriorating residential mortgage market as “similar” to the one facing the country’s banks, which hold a 79% share of the market. However, the report also pointed out not all credit unions, which are provincially regulated, follow the Office of the Superintendent of Financial Institutions’ Guideline B-20 on residential underwriting practices and procedures, which feature more stringent stress-tests for borrowers.

The low interest rate environment of recent years put pressure on credit unions’ and caisses’ NIM, but their earnings remained resilient. The Bank of Canada’s current campaign of raising rates to fight inflation “will bolster net interest income for [credit unions and caisses] given their asset sensitivity,” the report said.

The report also said that the credit union systems in each province were “generally well capitalized” with capital ratios well above minimum regulatory requirements. Funding and liquidity at the credit unions was strong as “relative to banks,” and they “benefit from a greater proportion of individual depositors that tend to be more stable.”