Keeping debt to income ratios in perspective

By Mark Kerzner

President, TMG The Mortgage Group

While there have been multiple rounds of credit tightening in the last few years and countless comparisons to the U.S. housing meltdown, it’s important to also look at the underlying health of our lending and credit markets.

This is especially relevant in light of recent news articles again indicating that the amount of household debt is “triggering alarms” (http://www.theglobeandmail.com/globe-investor/personal-finance/household-finances/record-high-household-debt-in-canada-triggers-alarm/article2269210/). While it’s true that our debt to income ratios are at record levels (>150%), it’s also important to keep perspective.

Let’s look at the facts:

1. Serious delinquency rate in Canada is approximately 0.4% versus 4.1% in the U.S. according to economist Benjamin Tal
2. Currently 1.1% of Canadian houses are experiencing negative equity versus approximately 22% in the U.S. (Benjamin Tal)
3. Even though 22% of Canadian mortgages have amortizations greater than 25 years, 36% of all mortgage holders made voluntary supplemental payments in 2011 (CAAMP Fall survey)
4. While total debt (mortgages, lines of credit, credit cards, etc) to income ratios in Canada have hit 150%, average mortgage interest rates this past year were 3.92% (30 basis points below a year earlier.
5. The most common use for funds taken from equity take-outs (refinances) in the past year is debt consolidation and repayment which reduces other forms of debt. Contrary to the concerns of some, by using a mortgage as a debt consolidation tool, total servicing debt costs are often reduced. This gives clients a potential strategy for reducing their total outstanding debt by using excess cash flow to more aggressively pay down that debt.
6. The Government has established a benchmark for qualifying mortgage customers at higher rates if they are taking an Adjustable Rate or a Term less than 5 years. On average that benchmark rate (average 5.38% in 2011) has been 1.46 points higher than the 5-year discounted rates and 238 bps higher than PRIME, which is currently at 3%.  This means clients who have chosen ARMs or terms less than 5 years have built in some buffer in the event interest rates do rise prior to renewal or during the term.

It is widely expected that during the course of present term mortgages, rates are likely to increase prior to renewal dates. Keep in mind that if interest rates rise, it is often correlated to a stronger economy. With a stronger economy comes improved employment levels and earnings.

While many are predicting an eventual increase in interest rates the current consensus based on Canadian economic forecasts and the European economic crisis is that rates are likely to stay low here in Canada for some time.  That is the dilemma. What is needed is more spending and less saving but not via increased credit which is difficult to achieve. The bank will have to run the risk that credit growth will continue so long as interest rates stay at these low levels.

Growing the Canadian Economy

When Bank of Canada governor Mark Carney made his inaugural speech as head of the banking industry’s global regulator on November 8 he said the world economy is getting hurt by a slump in liquidity, meaning banks are less willing or less able to lend money. And because global liquidity has fluctuated over the past five years, Carney said that Europe is already in a recession.


He used the 2008 collapse of the U.S. investment bank Lehman Brothers as an example. The impact of that was that banks shied away from lending to both companies and consumers. That helped plunge the world economy into a major recession.


Clearly, if banks stop lending, consumers stop spending and businesses stop spending. For an economy to function, money needs to keep moving.


There has been talk recently that Carney might lower the prime interest rate to keep inflation in check. Carney has also said that the Canadian economy won’t fully recover until well into 2013. Currently the prime rate is sitting at 1%. Inflation is approximately 2.7% and is predicted to slow to 1% in the second quarter of 2012. The Bank of Canada likes to keep the inflation rate between 1 and 3%.


So what does that all mean for Canadians?


So far, the credit crunch hasn’t hit Canada. While mortgage lending has tightened up a bit, banks are still lending money to businesses. The federal government has been making slight concessions to make sure Canada continues to grow:

·         For example, on November 27, Finance Minister Jim Flaherty eliminated $32-million in manufacturing tariffs. This will allow businesses to lower their costs, enhance their ability to compete globally, which will help stimulate growth and job creation.

·         On November 23, Mark Carney said he would stay flexible on interest rates. Despite the fact that inflation has been creeping higher, Carney said that although it may take longer to return inflation to target, being flexible with the rates will protect the country from any economic and/or financial shocks.

·         The federal government is also moving ahead to change the laws that govern financial institutions, adding more oversight to protect consumers. “Canada has been ranked as having the soundest banks in the world by the World Economic Forum for four consecutive years,” said Jim Flaherty, Minister of Finance in a statement released on November 23. "The Financial System Review Act will ensure our financial system continues to be secure for Canadians and a fundamental strength for our economy.”

These changes likely won’t have a direct impact on most Canadians but the after effects will. They include more jobs, higher profits for all businesses, access to low cost money for home buying and investing, stable housing markets and a strong and healthy banking system.


All of this makes Canada a growing, stable economy that can weather short term fluctuations for a strong and prosperous future.

Making sense of conflicting news headlines

By Mark Kerzner,
President, TMG The Mortgage Group Canada Inc.

Let’s face it. We live in a world of “sound bites”.

My wife and I went for coffee before work and actually had a conversation - one we really enjoyed. Usually throughout the workday we communicate with quick e-mails. Whether it’s deciding on dinner or who will be picking up the kids, because we are both busy people, our Monday to Friday (8am to 7pm) life needs to be efficient.

We are not alone. I’ve been hearing the same laments from my friends and colleagues. The unfortunate result is that sometimes things get lost in translation. And quick e-mails or text messages can be taken out of context.

This can also cross over into our business lives. Lately, there have been many conflicting messages in the news about the economy and about debt. And when our attention span only offers us 140 characters of space we become more influenced by headlines.

Consider the following headlines:
Mark Carney sees more than a year of soft growth: Globe and Mail, October 26, 2011

Compared with
Canadian economy rebounds, Globe and Mail: November 30, 2011
Has our economy really come full circle in one short month?
------------
Canadians fall deeper in debt, National Post, September 13, 2011

Compared with,
Canadians rein in debts amid uncertainty, Globe and Mail, November 29, 2011 
Given that the economy was supposedly weak just a couple of short months ago is it possible that we, as a nation of consumers, have already mitigated our high debt concerns?
-------------
TSX lower on continuing debt fears, Toronto Star, November 21, 2011

Compared with,
Stocks surge on debt crisis hopes, Toronto Star, November 28, 2011 

This headline seems to be driving the stock markets lately but are just as volatile as the markets themselves

With all this "noise" in the marketplace, it’s no wonder consumers are confused.
A recent survey released in November 2011 by The Canadian Association of Accredited Mortgage Professionals (CAAMP) itself highlighted market confusion amongst Canadians.

On the one hand Canadians largely agree with the proposition that "as a whole, Canadians have too much debt" with respondents scoring that nearly 8 out of 10.  Yet only a few of those who actually have mortgages "regret taking the size of the mortgage [they] did."

With respect to the housing market, Canadians indicated with a score of 6.07 out of 10 that Canada's housing market is in a bubble, yet when asked if real estate in Canada is a good long-term investment, respondents gave that a score of 7.27 out of 10

Clearly there are divergent views among Canadians. What is interesting is when those differences are segmented among those who owe the money and those who hear about those who owe the money. For the most part, Canadians with mortgages are comfortable with their levels of debt.

A good broker stays on top of market and can filter through the conflicting messages and get you the right information to you to make an informed decision. They can offer you the right product and terms that meets your unique financial situation.