Propped Up Market?

CMHC Propped

A year ago this week, the plug was pulled on controversial 40-year mortgages as the federal government tightened mortgage rules.

The Canadian Association of Accredited Mortgage Professionals estimated that 37% of all new Canadian mortgages taken from the one-year period ending in the fall of 2007 were longer than the standard 25-year amortization period.  And according to a TD bank representative, about 60% of first-time home buyers were opting for a 40-year mortgage, an indication that there were affordability problems and buyers needed to stretch out the payments to make the purchase.

Last summer, the Finance Minister was among those who had been sounding alarm bells about the dangers of 40-year mortgages, saying the country’s long-term financial health “requires having a nation of savers.”  He was worried about the growing tendency of Canadians “to go to longer amortization periods and smaller down payments.”

Canada-wide, as home prices soared, longer-term mortgages became increasingly popular with homebuyers seeking lower monthly payments. The maximum amortization period was extended from 25 years to 40 years in ______ – well, take a look at the chart below and take a guess what year  😉


How much did longer amortizations contribute to rising house prices?

(It was in 2006)

In making its announcement last summer about the cancellation 0% down/40 year amorts, the federal government once again stressed it was concerned about the “risk of a U.S.-style housing bubble developing in Canada.”

However, the move came too late according to a Chief Economist at BMO Nesbitt Burns.  “It’s a bit like closing the barn door after the horse has already run down the road.”

This leads us to CMHC which is the largest provider in Canada of default insurance on mortgages.  Its main objective is to provide access to more affordable housing for Canadians.

Buyers with less than a 20% downpayment must buy a policy, which protects lenders against default.  The federal government is on the hook financially because it guarantees 100% of the mortgage insurance claims paid by Canada Mortgage and Housing Corp., which is a Crown corporation.

This has contributed to rising house prices.

CIBC senior economist Benjamin Tal explains:
“One of the main reasons we did not need a bailout [of banks] is because of CMHC, and the ability to provide cheap credit through its facilities.
Did CMHC help to improve house prices today? Yes, they did because they gave cheap credit to bank and banks were able to provide credit and low mortgage rates, which I think is the main reason why house prices are rising now.”

CMHC continues to grow, becoming one of the top 5 largest financial institutions in Canada.  CMHC projects that its assets will hit $345.3-billion in 2009,  in comparison Bank of Montreal had $415-billion in assets as of July 31.

As prices rise and buyers purchase with less than 20% down, CMHC sells more insurance.   Add to that the mortgages CMHC purchases from banks to spur the home-loan market, and you can see why it’s growing at such an unprecedented rate.  So much in fact, that for the second time since 2008, Ottawa has raised the amount of mortgage insurance CMHC can have outstanding – from $350-billion at the end of 2007, to $450-billion, to now $600-billion.

Critics charge that such growth demands more oversight, pointing to the fact that even though CMHC is now central to the financial system, it is not regulated by the financial industry’s main watchdog, the Office of the Superintendent of Financial Institutions. It’s also a risk for taxpayers, because while CMHC sets aside billions as a cushion against losses, and is very well capitalized, Canadian citizens are ultimately on the hook for losses on its insurance should the housing market falter and those reserves prove too small.

Unfortunately, it’s a sensitive subject for politicians to take up in debate since the program allows more Canadians to purchase homes.

First time buyers weren’t affected for long when the 0% down/40 year amortizations ended in October last year, as interest rates soon dropped to historic lows keeping house prices within reach.

If times ahead become rough, do you think the government will allow the housing market to falter or will they intervene to keep prices from falling and avoid what has happened in the US?  How much is in their control to do so?

Sources to Quotes and Statistics in article

Source 1, Source 2, Source 3, Source 4, Source 5

20 responses to “Propped Up Market?

  1. “Unfortunately, it’s a sensitive subject for politicians to take up in debate since the program allows more Canadians to purchase homes.”

    I think you mean that the program offers the perception of allowing more Canadians to purchase homes. If the CMHC programs simply prop up prices, as the data indicates, then the price of housing increases consistent with the amount of CMHC subsidy. Existing homeowners win (but not really, because you can’t monetize your house the way you can monetize a share of EnCana). Anyone not already owning a house finds themselves further out, demanding more subsidy to level the playing field.

    It’s a vicious cycle.

  2. By the way, that graphic is awesome. I never realized how lucky I was that I bought a home in 2005.

  3. That’s a worry about the CMHC – and I thought for a while it might be a new loophole for our mortgages like the US derivative problem, but then I realized that maybe the reason they have taken on so much insurance is because nationally home sales ballooned this year?

    At the end of 07 and through 08 I would expect much less CMHC insurance volume but in 09 we all know what has happened. People everywhere bought homes so naturally CMHC would need to have more insurance when volume is high. When volume goes down next year, I think the CMHC insurance would follow , at least I hope.

    Something needs to be done about this asap. Sounds too much like Fannie Mae/Freddie Mac… Maybe some realty associations could show leadership and lobby the government?

    As a realtor what kind of downpayments are you seeing now – 5/10/20%?

  4. CMHC is quite the double ended sword. It does help Canadian buy homes, but is also hurts Canadians as well because it lets the banks take on more risk than they would have without CMHC there.

    Here is the problem I see (and the gov’t doesn’t?).

    Borrower – 0-20% down. 100% risk.
    Lender – Bank, 100% insured by CMHC if defated on. 0% risk, 100% return.
    CMHC – Insured by the taxpayer. 0% risk, 100% return.
    Taxpayer – 100% risk.

    Who is taking the risk? The borrower (taxpayer) and the taxpayer.

    What stops the banks from lending to “Sub-prime” borrowers? Nothing.

    Even if YOU put 25% (or more) down, you are still responsible for a bailout to CMHC even though you didn’t use them (taxpayer).

    CoffeeTims “Something needs to be done about (CMHC) this asap. Sounds too much like Fannie Mae/Freddie Mac”

    Well said. And to answer your questions I bet it’s 5 to 10% downpayment is the majority and we should go back to “normal lending standards”, say 25% down.


  5. Coffee Tims, the downpayment amount varied with each customer I’ve worked with depending on their circumstances – from 5% to paid outright.

    Mike, is it possible to change your posting name slightly to avoid confusion? Thanks 🙂

  6. Great post. That explains Canada’s way of bubble promotion very well.

    For us homeowners/buyers it’s double-edged as you say. Low rates get you in, but high prices open you up to tremendous risk if and when the bubble pops or rates climb, or both.

  7. Some Points of Interest:

    -SFH Inventory has dropped below September’s month-end yesterday.

    -The higher SFH Pending figures have started being realized in the actual sales numbers as average and median prices have been creeping upwards.

    -Bank of Canada left the overnight rate unchanged at 0.25% coming out of its policy-setting meeting today.

  8. Get real, I don’t know any average family who can afford even 20% on a decent 400k home. MAYBE back in the day before 2006, after years of saving, a family could save up for a large down payment but not today. Anyways, isn’t the whole attractiveness of real estate the high leverage gained by low down payments? If anything needs to be done the banks should be very careful about who they loan to; their credit history, income, etc. you can’t increase the downpayment or people will stop buying and that’s not good for anyone.

  9. Gulsen – that is the crux of the problem. There is no onus on the banks to “be very careful about who they loan to”.

    Either the buyer is eligible for CHMC insurance, or they are not. 0% risk to the bank, and we all know they must love this because it’s all about the bottomline for them.

  10. Gulsen – it depends on what “average” means.

    An average starter home in Calgary will be less than 400k. So I assume an average person buying a 400k home is probably selling theirs. If they sold in Calgary, they probably sold for a lot more than they bought it for so they may have 80k right there.

    Median Calgary household income is about $100,000 per year (I think it’s the highest in the country but not sure). I reckon $80,000 would take 6-7 years to save at least if you are being thrifty – so it’s not completely unreasonable. Definitely at the upper end of affordability though.

    TT and Mike – This CMHC thing bothers me too but I doubt the bank has 0% risk on a mortgage. If they did, you wouldn’t see big spreads on variable rates (ie prime + 1 instead of prime -1). If there truly was 0% risk, one bank would race to the bottom and pickup all the buyers it could with a lower rate.

    Did you know that if prime is 2.5% and the central rate is 0.25%, they basically make 3.25% for free on a variable + 1 rate (and a lot more on a fixed). No wonder banks are doing well now. I should buy more of their stock.

    But I still think the CMHC needs some better oversight. That should be obvious to anyone who reads the news and can remember past a few months.

  11. On how rich we are, ac cording to Stats Can the median Calgary family income in 2007 was $89,100. High but not 100k. Has it climbed $11k during the recession/slow recovery?

  12. Angler – I don’t think there are current stats for 2009. Wages and salaries are up about 5% each year the last 2 years which is where I came up with about 100k. This is despite the recession of the last year. Honestly it’s probably around 90-95k and not 100 but you get the point.

    The wage and salary increases don’t seem to get much press while unemployment has been increasing…

  13. Jimmy,

    At the major Oil and Gas Company that I work at and the other Oil and Gas company the my wife works at, we have not seen any salary increases in almost 2 years… none of my colleagues received wage increases of 5% over the past few years either.

    Thank you for the post Mike F.

  14. Newt

    A few people I know had a 15% raise this year. That doesn’t mean everyone did.

    See this link for my estimate on the 5% wage/salary increases. If you have data that contradicts I’d love to see it. In Alberta 2008 labour income was up 8.7% (wages up 5.7%) and 2009 YTD labour income up 3.1% (wages 4.9%).

    Like I said these stats seem to have been ignored this year. I also know people who have been laid off.

  15. I feel that the only way that an “average salary” stat would be accurate is if there were no layoffs and no new jobs created. Otherwise, to get an ideal representation of an average wage, you would have to take all of Alberta’s residential population and use the combined salary from all these people to find what a true “average” wage is. This would be a logistical nightmare.

  16. Newt

    You’re right on about general wages and the effect on new jobs/unemployment etc. They are never 100% accurate

    But then why bother talking about wages at all if we don’t trust the numbers? If you ignored the massive runup in salaries in Calgary over the boom years, you would never believe that home prices should go up as well. I would trust the stats over anecdotes.

    I think many people would be pointing to those numbers if they were going down instead of up…

  17. One Of A Kind

    I make just over 70k but I don’t think I could afford a 400,000 mortgage at any interest rate, not with the price of daily living gas , food ,Car payments , bus passes on and on. So renting has been determined by the real estate gods for my family
    We miss the boat and now we are on a the sidelines watching things unfold . There is not a day that goes by where both of us wonder what will happen in years to come , once the market takes a flush!

  18. One of a kind,

    I feel bad for you. It’s not “fair” when an average income cannot afford your average home. Unfortunately this has become the reality in Calgary thus far. Vancouver has been like that for a long time now and looks like it will never go back to fairness. A number of other cities in the world have become like this too, mainly for geographical reasons. Calgary has land to spare, so who knows what will happen.

    Today the BOC head talked about the high Loonie, and the dangers of it. He made valid arguments about Australia vs. Canada, especially about our trading differences (China vs USA). Looks like we may see Canada printing money in the future and buying up USD’s in order to lower our Loonie. This will happen until we find a way to trade everything with Asia.

  19. Jimmy – regarding 0% bank risk, I would encourage you to read this blog on the issue:

    “Between the beginning of 2007 and 2009 Canadian Banks increased their total mortgage credit oustanding listed on their books by only 0.01% (see CMHC chart below). One has to question if real estate was such a great investment, why didn’t they want to touch it?”

    “the government of Canada insures 100% of any losses (not just the 20% downpayment). This means that the securities are as secure as government bonds, yet pay a higher premium (currently 3.1%). ”

    This is prior to the recent expansion on mortgage credit to $600 billion.

    And a few weeks ago I did notice a couple banks post very low rates to compete for mortgages. I believe the BOM lowballed everyone else at 2.25% and it was interesting that it happened when it did as most people thought interest rates were going to increase sooner than mid 2010 (which Carney recently set straight).

    Was this an attempt to take on as much 0% risk as they could?

    And today, finally, it seems that someone in the mainstream media has finally picked up on this, or has stopped “hiding” it:

    “Since CMHC is insuring so many mortgages, the banks have no incentive to test the credit-worthiness of home purchasers. Then the mortgages can be neatly packed into MBS securities and have a CMHC 100% Canadian guarantee on the back of the investments, thus insuring end-investors these papers are insured from loss,”

    And to shed further light on wage increases, at one of the largest O&G producers where I work we have had a “raise-freeze” since the September 2008 market crash.

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