Canadian bankers are, by nature, a conservative lot. This is partly due to the mandated procedures and policies they are given by The Office of the Superintendent of Financial Institutions (OSFI) in Ottawa. The OSFI, reporting directly to the Federal Government’s Minister of Finance, has the responsibility to grant (and also terminate) Financial Institution Operating Charters. As a result, Financial Institutions always seek to have a positive relationship with OSFI, and in turn OSFI always closely monitors the operational integrity of our Federally Chartered Canadian Financial Instructions.

To ensure the soundness of Canadian Federal Financial Institutions (FI), OSFI will take into consideration, among other things: adherence to strict Tier 1 and Tier 2 equity capital requirements; portfolio delinquency rations; asset quality; asset mix requirements; and firm asset and liability matching reporting requirements. An FI is permitted to, with respect to the firm’s asset and liability matching report, ‘mismatch’ up to a maximum of 15% in any given quarter for any given term. This leeway, together with an accurate forecast of interest rate trends, gives FIs the ability to pick up additional interest by deliberately mismatching their assets to their liabilities. FIs will engage in this practice from time to time in an attempt to increase the investment return in their lending portfolio.

Listening to Jim Flaherty, Minister of Finance, several months ago would have left one confident that Canadian interest rates were scheduled to start a slow but steady increase from their current historic lows. In fact, many respected economists were projecting a July or August start date for the anticipated hikes. Due to the ever-changing global financial world we find ourselves a part of, this rate increase never occurred. It would seem that the Canadian economy is no longer insulated from what happens in other parts of the world. In addition to budget problems and unemployment issues that have threatened the fragile economic recovery process in the United States, the debt problems in Europe are mounting. The Global economy’s problems are manifesting in the Canadian economy’s slowing growth and lower inflationary pressures. Accordingly, the Bank of Canada has decided to delay raising Canadian interest rates.

As a result of this revised interest rate forecast, some of the FIs who lend via mortgages have been caught mismatched and are now aggressively lending in an effort to reduce the risk of shrinking interest available rate spreads (interest rate spread is the difference between what an FI pays for its cost of funds and the amount it charges while lending such funds). What we have been seeing recently is very aggressive competition between lenders when it comes to fixed term mortgages. This, together with the industry’s increase in the cost of variable rate mortgages, is helping make fixed rate, longer term mortgages appear more attractive to the mortgage consumer.

We are certainly living in interesting times, and in an economy that is, without question, a true part of the global economy. Yes, economic trends will continue to be volatile. Yes, the ‘big picture’ we must consider before making financial decisions just got quite a bit bigger.
“In investing, as in politics, the easy plausible notion is often misleading.” – John Train, The Craft of Investing, 1994

Paul E. Croy