Mortgage war combatants losing taste for battle

Share

Canada's lenders are growing weary of the mortgage war.

Having been drawn into a price battle after Bank of Montreal dropped mortgage rates to historic lows in a rush to grab market share, some lenders have lost their appetite for thinning margins.

Faced with offering some mortgages that are barely profitable, or in some cases even lose money once costs and commissions are factored in, some banks are reconsidering their strategies.

"After costs, we're not making much," said one senior bank executive at one of the Big Five banks. "You're doing five years' worth of work for nothing. It's pretty frustrating."

Other lenders have quietly started backing away from the deep discounts.

Bank of Nova Scotia informed brokers this week that it was pulling its 2.99-per-cent rate on four-year, fixed-rate mortgages. The move is significant because it suggests the ultralow rates could soon dry up. After engaging in a similar price war in January, several banks pulled their offers off the market early amid fears that profit margins were getting too thin. However, the battle was reignited when BMO reintroduced discount rates last month.

While Scotiabank, Canada's third-largest lender, wouldn't say whether its loans were unprofitable, market watchers say mortgage brokers' commissions could eat into the thin profit margins on the cheapest mortgages for banks, making them break-even propositions or unprofitable. While mortgages sold directly from branches have a bigger cushion built in, some banks are struggling with the strategy of pushing mortgages at unattractive spreads.

Independent lender Street Capital Financial Corp. told brokers recently that it has begun offering 2.99-per-cent rates on four-year, fixed-rate mortgages. But its president, Paul Grewal, hopes he doesn't have to offer that rate for long.

"For us, the 2.99 [per cent rate]is really a defensive offer in light of the Bank of Montreal offer that's in the marketplace right now," he said. "I think eventually you'll see a number of lenders pull away from the 2.99, because it's just not sustainable at today's spreads."

Bank of Montreal's 2.99-per-cent offer on a five-year mortgage is set to expire March 28. Another bank said the sector is watching closely to see what the bank does before making a decision. If BMO extends the offer, some may be forced to keep pace.

BMO is trying to rebuild its market share in the mortgage market, after losing considerable business over the past few years. The bank is employing a strategy of low rates up front, hoping to attract customers who also want to move accounts, while hoping to make bigger margins off customers down the road when they refinance.

Amid the price war, policy makers are worried the rates will entice borrowers to take on larger mortgages than they otherwise would. That will add to consumer debt levels, which are already at record highs, as well as further fuel the housing market.

Ottawa's frustration with the banks appeared to hit a new level this week, with Finance Minister Jim Flaherty warning them that it will be their fault if the housing market continues to overheat.

"We have bank executives in Canada going out and saying 'You know, really the rules on insured mortgages should be tightened up,'" Mr. Flaherty told reporters. "Well, they must forget that they are actually the ones that issue the mortgages. It's their market. It's not my market. They decide what they want to charge in interest rates."

So far, Scotiabank appears to be alone in its decision to walk away from the price war. However, it's likely other banks will follow suit, with some executives saying they never wanted to cut rates so low.

RBC said it only moved in response to BMO, which it referred to as a "market attacker." Bank of Montreal has made it a priority to try to rebuild its market share in the mortgage market, after losing considerable business over the past few years.

"We felt compelled to follow," David McKay, head of Canadian banking at Royal Bank of Canada, said in a recent interview.

RBC chief executive officer Gordon Nixon said in an interview "it's a very competitive marketplace out there."

The silver lining is that the low rates are causing many consumers with variable-rate mortgages to lock in, Mr. Nixon added. "The fact that people are moving into fixed-rate mortgages at low rates is a good thing from not only a consumer perspective but from a credit perspective, because they are insulating themselves against a potential rise in interest rates."

Banks fund their mortgages in a variety of ways, from tapping into their deposit pool to going to the bond market, so it's difficult to know what the costs are for each lender.

Banks are having to decide whether they favour higher market share, or higher profit margins. Some banks want to sell more mortgages through their branches, which saves on broker commissions and allows them to sell other products to customers, such as wealth management services or lines of credit. BMO abandoned broker sales three years ago, and Canadian Imperial Bank of Commerce is now moving in that direction.

Some bankers who think that the responsible thing to do to cool the housing market might be to stiffen mortgage conditions acknowledge it's tough to do so in this heated environment. Toronto-Dominion Bank CEO Ed Clark has said that banks are reluctant to take measures such as only offering shorter amortizations, because they risk an opportunistic competitor swooping in to take business.

Bankers also suggested that they think BMO's strategy will not succeed, because consumers who are lured by an extra five or 10 basis points now will be lured to a different bank for the same amount when their mortgage comes up for renewal. (A basis point is 1/100th of a percentage point.)

The rate wars come as Ottawa is reigning in the growth of the Canada Mortgage and Housing Corp., a move that could make it a little bit harder for banks to find cheap funding for their mortgage businesses.

And some experts are pressing the government to go further. Finn Poschmann, vice-president of research at the C.D. Howe Institute, would like to see Mr. Flaherty take steps in the federal budget next week to curtail government backing for mortgages that are used in bonds that are sold to investors.

Mr. Poschmann is hoping Mr. Flaherty will say that banks can no longer insure large swaths of mortgages that have large downpayments, just to issue covered bonds.

"It enables them to bring the stuff to market at slightly lower yields than otherwise, which means they get a better price for the bond issue," Mr. Poschmann said. That decrease in the banks' costs adds risk to Canadian taxpayers, who are ultimately on the hook for CMHC's insurance.