Here’s more of what you need to know about the new stress test rules, straight from the regulator:
On the Need to Act Now
25.6% of uninsured mortgages originated between July and December 2020 had a “qualified TDS” above 43%, OSFI says.
44% is the limit, and for a healthy market you really want to see that number down in the teens (at most). That makes the housing market’s state of affairs more serious than the data we’ve seen to date suggests.
As much as stress testing people with a 300-basis-points-higher rate seems ludicrous on its face, the data validates OSFI taking action now to protect the financial system.
OSFI has provided welcome clarification on how its new stress test will affect people who buy a home before the new stress test’s June 1 implementation date. It told us today:
“If a mortgage is pre-approved before June 1, the new minimum qualifying rate does not apply, even if the sale doesn’t close until after June 1. However, there must also be a signed purchase and sale agreement.”
On the Impact of Rising Rates
“The Bank of Canada increases interest rates in response to changes in the macroeconomic environment (strong growth, inflation, among other dynamic factors),” OSFI explained. “The initial floor of 5.25% is in preparation for a return to pre-pandemic macroeconomic conditions.”
That would seem to imply that if the Bank of Canada has started or is approaching a rate-hike cycle, the stress-test floor rate could potentially continue rising, other things equal.
But a spokesperson adds, “OSFI’s assessment of the qualifying rate is focused on prudential risk factors and vulnerabilities (e.g., the financial risks posed to financial institutions as a result of growing borrower indebtedness) and, as such, interest rates and the broader macroeconomic environment are part of the broader context for this assessment.”
“Moving forward, OSFI would set the floor based on its supervisory judgment and informed by its analytical work. It would also consult its federal partners such as the Department of Finance and the Bank of Canada.”
“While OSFI’s review of the qualifying rate would occur, at a minimum, annually (every December), it may occur on a more frequent basis if the prudential risks were to justify such a change. Following every review, OSFI would publish its results.”
Our thanks to OSFI for these clarifications.
Other Commentary of Note…
- From TD Economics today:
- “Uninsured mortgages make up roughly 70-75% of recent issuance and about 65% of outstanding balances, so the policy is targeting a large portion of the market.”
- “We are likely to see some moderation in activity after the policy comes into effect, both from the policy itself and as the pull-forward of demand to beat its implementation unwinds. However, any softening should prove temporary, and this policy is unlikely to significantly alter market psychology or cause a steep or protracted drop in activity.” (Time will tell on the psychology aspect. -ed.)
- “The policy could cause some shift down the value spectrum for buyers, given tougher qualification standards. This could weigh on average home prices in the near-term, as sales of less expensive units outperform.”
- “We note that Canadian average home prices dropped for four straight months in the wake of the B-20 [stress test] in 2018. However, markets are much tighter now than they were back then, which should negate some of this pressure.”
- “…Because it applies to federally regulated financial institutions, it could cause an increase in the migration of loan demand to private lenders to skirt the higher qualification, much like what we saw in 2018.”
- Here’s my Globe column today covering more of the consumer impact.
I’m calling b.s. OSFI is doing this to slow housing price growth, and trying to re-frame it based on financial risk.
Since uninsured mortgages are limited to 80%LTV, there’s minimal risk to lenders for the coming years. OSFI knows rates go up in response to economic growth and inflation. It also knows that those same factors support housing values, but is pretending it’s not true. We’ll only see a material pullback in housing prices if economic growth (primarily employment) falters. And if/when that eventually happens, interest rate policy will be adjusted to mitigate the negative impact.
what are the chances of them increasing the qualifying rate for insured purchases also? historically, what has been the pattern?
It’s a late decision. Everyone has vested interests in real estate in Canada and hence nothing was done earlier. This will only make buying first homes difficult for people who actually need homes since rents are still high. This won’t make much of a difference to those who have already entered the market or are buying second and third properties since the economy is built for sellers. At best it might make a slight drop in the prices but for an actual difference there has to be a higher taxation on flipping or those who have more than 2 properties.
Ralph: You seem to be arguing that home values are not worrisome, people are not getting dangerously over-indebted in record numbers and that there’s no increasing risk in the financial system. I’m glad your personal indicators show all is well but it OSFI’s and the Bank of Canada’s indicators contradict yours. Who do we believe? I wonder.