The market is still waiting to hear whether Finance Minister Jim Flaherty will - as many on Bay Street expect - restrict the ability of the banks to use insured mortgages in their covered bond programs.
Mr. Flaherty didn’t make such a move in his recent federal budget, but he did make a somewhat cryptic comment to reporters in New York this week that might be pointing in this direction. “We do intend to have some changes with respect to reporting by CMHC, particularly with respect to securitization,” Mr. Flaherty said, according to Bloomberg news. He added that Canada’s banking regulator, the Office of the Superintendent of Financial Institutions, is engaged in the issue.
With the market waiting, Canaccord Genuity analyst Mario Mendonca decided to crunch some numbers to assess the possible impact.
The big six banks have about $700-billion in mortgages outstanding (closer to $760-billion when you count home equity lines of credit at Toronto-Dominion Bank , and about $450-billion of those are insured. Of those, $220-billion have been securitized or are collateral for a covered bond program.
Securitizing mortgages and issuing covered bonds provide the banks with a cheaper source of funding than traditional means of tapping the wholesale markets. It’s assumed that investors will pay up for bonds backed by insured mortgages - but not all banks look for that extra funding advantage. Royal Bank of Canada has $10-billion in covered bonds outstanding, but the mortgages behind them are uninsured, Mr. Mendonca notes.
At the other end of the spectrum TD (which has the largest amount of mortgages that are securitized or backing covered bonds) has a $31-billion portfolio of insured mortgages that have been securitized or are part of its covered bond program. All of the other banks, besides Royal, also use insured mortgages in their covered bond programs.
“Estimates of the additional cost of uninsured versus insured mortgages in covered bonds range from a low of 10 basis points to a high of 20 basis points,” Mr. Mendonca wrote. “Applying 20 basis points for conservatism, we estimate that the additional cost to the industry would be only $120-million or 0.7 per cent of domestic retail pretax income over the last 12 months.”
All told, he sees minimal impact on capital levels or funding costs if the government does make the move. But, he adds that the move could affect the price of mortgages down the line.