February 3, 2013
TORONTO, ON, Feb. 3, 2013/ Troy Media/ – In the past few weeks each of the bond rating agencies revealed they had Canada’s ‘Big Five’ banks on ‘watch’, meaning the agencies are reassessing the creditworthiness of the bonds these banks issue to fund the lending they do.
Does this mean that Canada’s banks are headed down the same road as Britain’s Northern Rock or Royal Bank of Scotland (two banks that had runs on them and had to be nationalized)? Are they about to collapse the way American banks suddenly do – or is the federal government going to have to suddenly come up with a few spare trillion dollars to bail out the system and keep it running, the way deadbeat operations like the New York banks were?
Relax. Our banks are not in that kind of trouble.
However, Canadians are missing the bigger picture.
All our major financial institutions are far more complex than we think they are.
All of them have major subsidiaries outside the country. New England, chunks of New York State and the Atlantic states are the home of TD. RBC is big in the old Confederacy states; BMO owns a good chunk of banking in the American Midwest. The Bank of Nova Scotia has always played a leading banking role in the Caribbean islands. CIBC and CIBC World Markets, its investment banking arm, are as prominent in downtown Manhattan as Goldman Sachs.
In other words, these banks can get into trouble not because of their Canadian business but because of worries in other countries.
That trouble will show up here in Canada (assuming one of them is given a downgrade) as higher interest rates on mortgages, home equity lines of credit, loans tied to ‘prime rate’, and the like. It may also show up as changes in credit card rates. It will cost them more to raise the money to keep lending and that will be reflected in the rates Canadians pay.
The other side of the coin is that if the demand for borrowing slackens – and it has been, as reflected by real estate markets – then the banks’ income may fall, which for those holding bank dividend-paying stock can mean lower investment returns.
Fortunately, the banks have backstopped their subsidiaries well enough to ensure that, even if Americans went plumb crazy and started runs on their banks, their U.S. operations wouldn’t take down their Canadian parent operations.
Still, as Canadians, we might want to use this moment to look at our own personal balance sheets and consider the future.
Interest rates, frankly, have only one way to go – up.
It may be sooner if it’s driven by the bond rating agencies and it may be later if they stay their hand – then the Bank of Canada will then come back into play.
But the last few years of near zero interest rates will end. Canadians counting on interest income on their retirement funds to supplement their pensions will say ‘about time!’ as will the pension fund managers.
Canadian banks are already seeing steady slow increases in the cost of placing their bonds. And because a lot of bonds are placed worldwide, only so much capital is available to buy them. There is only one way for the banks to outbid, say, the profligate Ontario Government, and that is to offer higher interest.
Can you afford interest rates to rise on the debt you hold? Far too many of us really can’t tolerate such increases.
Remember, every company you deal with routinely uses operating lines of credit. As their costs go up, the prices of their goods and services are likely to rise as well.
That’s one reason why companies are sitting on so much cash: the so-called ‘dead money’ Bank of Canada Governor Mark Carney is so dead set against. It represents their insurance policy for higher rates, just like your personal one is called ‘pay the debt off’ and ‘free up monthly cash flow to cover increasing costs’.
If you treat 2013 as a year to exercise caution and discipline, you’ll find 2014 and beyond a much nicer place to be.
Troy Media Columnist Bruce Stewart is a management consultant located in Toronto.
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