The problem with Emili
The Globe and Mail’s investigation has revealed serious concerns – behind the scenes in Ottawa and within the housing and banking sectors – over whether mortgage lenders have exercised enough caution and diligence in recent years as the industry wrote record amounts of new loans, and whether the data produced by the computerized systems are flawed.
Documents obtained by The Globe through numerous Access to Information requests show that the banking regulator, OSFI, is concerned about the “relaxation of valuation policies” by the banks, as automated appraisals have come to dominate.
The documents, which include transcripts of consultations with industry insiders, show OSFI has become worried about the accuracy of the data used in automated systems, including the possibility that those systems are inflating housing prices and putting lenders at risk.
CMHC’s Mr. Serré defends the Emili system, saying it takes into account municipal property tax assessments, recent sales in the area, and prior transactions involving the home, if available. The models also use data about the property being purchased, such as square footage, as well as information about the borrower, including income and debt levels.
However, the housing data fed into the Emili system are, by nature, imperfect. OSFI warns in the documents that automated models “have their drawbacks,” because the data relied upon often include information provided by sellers, which can’t always be trusted. “[The programs] are driven by the sellers’ listings, which often inflates the value of the home,” OSFI says.
And municipal tax assessment information is typically outdated, and could take years to capture falling prices, as some markets in Canada are now experiencing.
It also concerns the bank regulator as well as industry members that automated programs do not examine the particulars of a home – such as an aging foundation or lack of upkeep.
“Neighbouring or adjoining properties can and often have vastly different physical characteristics that can impact overall values,” an industry member states in the documents. (The names of each party involved in OSFI consultations were blacked out before the files were provided to The Globe.)
An on-site visit to a suburban Vancouver home with Mr. Sieb illustrates the concern. As he begins walking through the house, the appraiser grows skeptical about the information the bank has been given about this home.
The listing says this house – a bungalow listed for $479,000 – was built in 1980 and is newly renovated. He notes some fresh carpet and a recently installed light switch, but the kitchen and other rooms show troubling signs of age. “This isn’t a renovation,” he says flatly. “You wouldn’t call it that unless you were stretching what you see for the purpose of getting the value up.”
Mr. Sieb checks the dates stamped on the plumbing. “This place was built in the 70s,” he says, shaking his head.
This, he explains, is the sort of thing that the computers miss.
Last month, Mr. Sieb appraised a home that turned out to be several hundred feet smaller than what the paperwork on the house claimed.
“In my career,” says Mr. Sieb, who has been appraising for 30 years and now runs Inter-City Appraisals of Coquitlam, B.C., “maybe five times have I had the exact same measurements as the realtor.”
The OSFI documents say the age of a property is a particular area of concern. “Often, this figure is neither verified nor validated and rests upon the buyer’s or seller’s word,” the documents say.
Nor can computer systems assess the basic quality of the property: “The physical quality of the building is not verified on site. A building’s construction quality as well as its condition and specific location are other highly important factors that determine an immovable property’s value.”
Such flawed data skew the risk assessment on loans, and can lead to the green-lighting of bigger mortgages than should be permitted. That pattern, in turn, stokes inflation of the market.
The systemic inaccuracy creates latent risk within the lending system. The documents indicate OSFI is concerned that banks have come to rely too frequently “on one method” – computers – to evaluate homes and mortgage applications. One industry insider estimates some banks used automated systems for as much as 70 per cent of their mortgages and refinancings at the peak of the housing market.