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(MIKE SEGAR/REUTERS)
(MIKE SEGAR/REUTERS)

Moody’s knocks Canadian banks down a notch Add to ...

Moody’s Investors Service Inc. has downgraded the credit ratings of several of the country’s largest banks, saying that high housing prices and record levels of consumer debt have left them vulnerable to a slowing Canadian economy.

Among other moves, the bond-rating agency took away Toronto-Dominion Bank’s triple-A rating. TD, which was the last Canadian bank to enjoy the highest-possible rating until Monday, was downgraded over concerns about the increasing size of its U.S. operations, where the bank faces more competition than in Canada.

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Moody’s also lowered the ratings of five other financial institutions by one notch: Bank of Nova Scotia, Bank of Montreal, Canadian Imperial Bank of Commerce, National Bank of Canada, and Caisse Centrale Desjardins.

Moody’s said the country’s banking sector still ranks ahead of most of the world. David Beattie, vice-president and senior credit officer at Moody’s, said Canada’s banks rank second behind Singapore’s in terms of credit outlook, and are roughly on par with Australian financial institutions.

But the agency also said that the banks are “more vulnerable to unpredictable downside risks facing the Canadian economy than in the past” because of the state of the housing market. Ottawa has made a number of moves to slow soaring prices in real estate.

These include last year’s changes to mortgage rules that limit the maximum length of insured mortgages to 25 years. Those appear to be having the desired effect.

But they are also slowing down the economy, and reducing the odds of higher short-term interest rates this year.

“The domestic drivers [of the downgrade] were really primarily the high levels of consumer indebtedness and elevated housing prices,” Mr. Beattie said in an interview. That makes the banks more vulnerable to an external financial shock, such a flare-up of Europe’s debt crisis.

“We felt that were there to be a shock created by an external risk factor, the Canadian banking system would be not quite as resilient as it has in the past because of the high leverage levels of Canadian consumers.”

The downgrades by Moody’s were not a major surprise after competing agencies began downgrading Canadian banks over the past year, starting with Royal Bank of Canada in June, owing to worries about slowing growth in the banking sector, and persistent low interest rates that are crimping revenue.

Among the financial institutions affected, TD Bank drops from Aaa to Aa1 for long-term deposits, while Scotiabank drops to Aa2 from Aa1. BMO, CIBC, and National Bank of Canada drop to Aa3 from Aa2. Caisse Centrale Desjardins moves to Aa2 from Aa1.

RBC’s rating was not changed, but had been previously downgraded two notches to Aa3 in the summer, when Moody’s undertook a separate review of global banks that operate large capital markets businesses, which can be exposed to volatile revenues.

BMO’s high exposure to unsecured consumer loans, and its growth aspirations in the United States were the reasons for its downgrade, Moody’s said.

Scotiabank was downgraded owing to its higher exposure to “less well-secured Canadian consumer debt” compared with its peers, Moody’s said. CIBC, which is heavily reliant on Canadian retail banking for its earnings, has “only modest shock absorbers” built into its operations, since it is less diversified, the bond rating agency said.

The downgrades come on the heels of a similar move by bond-rating agency Standard & Poor’s Corp., which downgraded several financial institutions by one notch in December, citing a softening economy and persistent low interest rates.

“These banks are all still very highly rated institutions and very well managed in the context of banking systems around the world,” Mr. Beattie said. “It’s still the top two- or three-rated banking system in the world, and the probability of default of a double-A-rated bank are extremely low.”

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