Australian banks among international lenders exposed to second order housing impact: Moody's
Rating agency Moody’s has sounded a caveat for banks in Australian, Canada and Sweden, saying they are increasingly sensitive to economic shocks that could result from a slump in house prices after a more than 16-year surge.
In the report, "Banking -- Global; Possible house price drop poses some risk for Canadian, Swedish, Australian banks," Moody's Investors Service compares the rise in house prices and household indebtedness.
Between 2000 and 2016, house prices rose by 144% in Sweden, by 115% in Canada and by 113% in Australia. At the same time, household indebtedness has risen sharply, and mortgages now account for 63% of the banking systems' total loan books in Australia, 48% in Sweden and 39% in Canada.
“Housing market corrections are often triggered by an economic slowdown, but even when they occur without any economic trigger, the attendant uncertainty can weigh on consumer confidence. This can in turn contribute to a slowdown in economic growth, which if severe enough can increase losses across the full range of banks' loan portfolios,” Moody’s said in the report.
“Between May and September 2017, we took rating actions in all three banking systems to reflect this risk, although lenders in these countries remain among our most highly rated globally.”
Moody's base case is that house prices will continue to climb in Canada and Australia, albeit at a slower pace over the next 12 to 18 months, whereas preliminary data suggest that the housing market may already be turning in Sweden.
“If there were a house price correction in any of these countries, the combination of protective features built into their mortgage markets, banks' underwriting practices and full recourse loans would limit mortgage losses,” it said.
"Nonetheless, banks in these countries are exposed to second order effects," said Louise Lundberg, a Vice President and Senior Credit Officer at Moody's.
Lundberg elaborated by saying that an economic slowdown that would likely accompany a substantial house price correction would lead to higher losses on consumer loans, commercial real estate loans, and loans to consumer-exposed corporates.
In most scenarios, Moody's said it expects banks in these three countries to be able to absorb any loan losses through their earnings.
“Any impact on their capital levels, which we currently assess as strong to adequate, would likely be limited,” it said.
Assuming unchanged earnings (although these would likely be negatively impacted in a stressed scenario), loan losses could increase to 2.2% of gross loans in Canada from 0.4% in 2016, to 1.8% in Australia from 0.2%, and to 1.4% in Sweden from 0.1% before eating into capital.
In Australia, macroprudential measures recently announced by the regulator will likely constrain credit growth, particularly growth in loans to property investors, who account for around 35% of all new mortgages. These measures, along with more stringent underwriting criteria, are likely to reduce customers' borrowing capacity. Overall, we expect the rate of house price appreciation over the next 12 months to slow.
Rising house prices have led to a sharp decline in housing affordability in all three countries (see Exhibit 2).
Canadian, Swedish and Australian household debt has also risen strongly (see Exhibit 3). Household leverage is highest in Australia, where it reached 212% of net disposable income in 2015, and has risen further since. This compares with 183% in Sweden and 176% in Canada (2016 data).