OSFI Sounds Alarm on Mortgage Market Risk

The Office of the Superintendent of Financial Institutions (OSFI) has issued a regulatory notice to federally regulated lenders, reminding them of their responsibilities regarding mortgage risk management and underwriting guidelines. The notice comes in light of growing hazards in the mortgage industry.

Current Economic Conditions

OSFI states that the notice enhances Guideline B-20 by emphasizing the regulator’s expectations for lenders during the current economic and interest rate conditions. The measures mentioned in the notice are not new but serve as a reminder of the importance of implementing proper mortgage risk management practices throughout the loan process.

Increased Risks in Lender Portfolios

The notification addresses the increased risk of current mortgage accounts and lender portfolios. These risks involve the possibility of sudden payment shocks and the potential for renewal and refinancing issues, especially for borrowers with riskier mortgage options, such as true variable-rate mortgages (VRM), which feature fixed payments.

Steep Interest Rates Adding to Household Debt

According to OSFI, the risks have risen due to a combination of high levels of household debt, increased interest rates, and ongoing elevated inflation. Consequently, many borrowers are currently dealing with increased mortgage payments, and it is anticipated that even more will be thrown into payment shock when it comes time to renew or fulfill their original amortization requirements.

Potential Risks of Variable-Rate Mortgages

The latest notice from OSFI restates concerns about the potential risks of fixed-payment variable-rate mortgages. These types of mortgages maintain stable monthly payments, even when interest rates rise, resulting in increased interest expenses and lower principal repayments. The regulator stated that default risks are especially concerning for borrowers with higher-risk mortgage products.

Borrowers Could Reduce Risk on Their Mortgage Strategy

VRMs have historically provided Canadians with savings on their mortgages. However, with the increased risk of inflation staying sticky, we could enter a period of higher interest rates for longer. Typically, borrowers can save interest-carrying costs on their mortgages as rates trend down by choosing a VRM. Higher inflation takes away purchasing power, and median incomes in Canada are decreasing as quickly as debt obligations. It may be time to choose an adjustable-rate mortgage (ARM). ARMs are variable mortgages where the payment fluctuates with prime rates. This provides up-front savings in cash flow while avoiding the risk of negative amortization with your mortgage rate.

Mortgage Finance Companies 

Unlike most big banks in Canada, mortgage finance companies, such as nesto, offer mainly ARMs on standard charge mortgages. Not only does this offer up-front savings while reducing risks for your mortgage strategy, but it also provides lower costs to switch your mortgage if you find a lower rate elsewhere. Contact nesto’s mortgage experts to learn more about protecting your borrowing strategy.