Thursday, March 09, 2006

Consumer Credit, Now 70% of Banks' Loan Book

The Globe and Mail, Roma Luciw, 9 March 2006

Even though Canadians are shouldering record levels of personal debt, it would take a dramatic rise in interest rates and a major shift in consumer borrowing before bank earnings would suffer, according to UBS Securities Canada Inc.

There has been a shift in the asset mix on the balance sheets of Canada's largest banks, with the consumer-lending portion of total assets steadily rising, UBS analyst Jason Bilodeau said in a report released the week after Bay Street's banks unveiled their first-quarter financial results.

The shift in loan mix assets — where consumers now account for 70 per cent of the loan book — has boosted the bank's earnings in recent years, Mr. Bilodeau said, and raised fears that a reversal could in turn threaten their bottom lines.

“Our conclusion is that risks regarding consumer leverage, while they bear watching, are largely overdone,” he said. “In our view, it would take a rather dramatic deterioration in the economy, interest rate environment or consumer behaviour before we would expect consumer credit to come under meaningful strain.”

The shift is fuelled by a booming housing market, which has led to flood of low-risk residential mortgages, as well as a proliferation of personal lines of credit, he said. In order to avoid massive losses similar to the ones paid out in the Enron Corp. debacle, banks are trying to reduce their exposure to higher-risk corporate lending.

There is no question that consumer loan growth has risen sharply, leading to the perception that Canadians are stretched, Mr. Bilodeau said. While Canadians are deeper in debt, however, their credit health and leverage remain “very comfortable” by historical standards and also when compared to consumers in the United States.

With Canada's economy churning out new jobs and consumer confidence high, Mr. Bilodeau sees no signs that point to a meaningful deterioration in consumer credit.

In the event that interest rates rise significantly and consumer credit deteriorates, growth would be cut by a couple of points and bank earnings would still decline only modestly, he said.

Investors who are concerned about the consumer should consider reducing their exposure to Canadian Imperial Bank of Commerce, which is heavily exposed to the consumer, and consider Bank of Montreal, which has a conservative track record when it comes to lending, the report said.