a serious business man thinking about serious problems
Andriy Bezuglov/123RF

The so-called shadow banking sector in Canada has grown rapidly since the financial crisis, representing a systemic vulnerability, says DBRS Ltd.

In a new report, the rating agency detailed the growth of the Canadian shadow banking sector, which has grown faster than the traditional banking sector since the crisis.

“This growth has predominantly been driven by the funds segment, which has increased in tandem with the growth of the wealth of individuals, encouraged in particular by the growth of their retirement accounts,” DBRS said in a new report.

Shadow banking assets have grown by an average 12% annually, to $1.5 trillion in 2018, up from $0.6 trillion in 2010.

“This pace is faster than the growth of shadow banking globally,” DBRS said, adding that the growth is also faster than that of the traditional banking sector.

Given the increased stress on the financial system, the larger role for shadow banks represents a possible risk for the Canadian financial system, DBRS said.

“In a stressed environment, withdrawals, funding difficulties, and other disruptions for nonbank financial institutions could have a widespread impact on the financial markets,” the report said.

In general, the shadow banking sector poses financial stability risks due to the prospect of funding mismatches, along with leverage and credit risks.

“The concern is that these funds and other nonbank [financial institutions] can face investor runs and rapid disintermediation as investors convert their holdings into cash and seek to protect their capital,” the report said.

This, in turn, intensifies pricing pressure on bonds and other financial instruments, reducing market liquidity.

“With the heightened uncertainty surrounding the spread of the coronavirus, that stressed environment is here and it is having an impact,” DBRS noted.