Canada

Canadian Households Are Just 0.01 Points From The Mother of All Debt Records

Canadian household finances took another hit last year. Statistics Canada (StatCan) numbers show the debt servicing ratio (DSR) is at a multi-year high as of Q4 2018. The amount of income spent maintaining debt is now at a level not seen since 2007. The volume of debt has effectively wiped out the household benefit of low interest rates.

Debt Service Ratio

The debt service ratio (DSR) is the percent of disposable income used for loan payments. Disposable income is the cash left over, after the government and non-discretionary payments take their cut. The ratio is an easy concept to understand, but the meaning is often misunderstood. Often you’ll hear that a high debt ratio is fine, because of the level of defaults are low. That’s great for banks, but that misses the benefit to the economy.

Debt is how you buy something today, without having to have the full value. Future economic activity is pulled forward, in exchange for the payments plus interest. Higher DSRs mean more of your future income is spoken for, to pay for consumption today. Every dollar a household has obligated to a payment, is a dollar they can’t spend, save, or invest. Those dollars they can’t spend, mean they can’t drive future economic growth. A slowing economy can lead to much more of a mess than a few over-leveraged defaults. It effectively turns into everyone’s problem, even if they have no debt.

Canadian Household DSR Is 0.01 Points Below The Record High

The DSR of households in Canada is just a hair under the record high. The DSR for all household debt reached 14.87% in Q4 2018, a 1.22% increase from the previous quarter. The ratio has climbed 5.46% from one year before, and is just 0.01 points under the high hit in Q4 2007. Despite near record low interest rates, people are paying a lot towards interest.

Canadian Household Debt Service Ratio

The percent of dispoable household income required for obligated debt service payments.

Source: Statistics Canada, Better Dwelling.

Half of Canadian Household Debt Payments Go To Interest

The DSR for interest only on those payments represents almost half. The interest only portion of the DSR hit 7.34% of income in Q4 2018, up 1.94% from the month before. The ratio climbed a massive 8.9% from last year, and now represents 49.36% of the total in payments. Debt may be cheap, but households are making it up in volume.

Mortgage Debt Is Only Part of The Problem

Most might assume this is related to steep home prices, but less than half of payments are mortgages. The mortgage portion of the DSR was 6.69% in Q4 2018, up 0.75% from the quarter before. The ratio is up 3.56% from the year before, and is less than half of all income spent on debt servicing. Even so, the payments spent on mortgage debt are the highest level since Q4 1992.

Canadian Household Mortgage Debt Service Ratio

The percent of dispoable household income required for obligated mortgage debt service payments.

Source: Statistics Canada, Better Dwelling.

Over Half of Mortgage Payments Are Going To Interest

We know, it’s the good debt though – right? Not exactly when over half of payments are currently going to interest. The DSR for the interest portion of mortgage payment reached 3.72% in Q4 2018, up 2.19% from the quarter before. That’s a 7.5% increase compared to the same quarter a year before, and represents 55.6% of mortgage payments. Yes, the typical Canadian pays their banks more than they’re putting towards principal.

Canadian Household Mortgage DSR (Interest Only)

The percent of dispoable household income required for the interest portion of obligated mortgage debt service payments.

Source: Statistics Canada, Better Dwelling.

Canadian households are making near record high debt service payments. That wouldn’t be surprising if interest rates weren’t near historic lows. The sheer size of debt accumulated from low rates created a massive debt trap. Despite cheap money, monthly payments are still almost half interest. The benefit of cheap money has been nearly neutralized. Most likely this will turn into an extended period of low economic growth.

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27 Comments

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  • Trader Jim 5 months ago

    The BOC is targeting negative real rates, and a cut is most likely in the picture. They might be able to save the consumer from debt, but they won’t be able to save the currency from an onslaught. That means higher gas prices, higher foods costs, and less travel.

    It also means foreigners won’t want to buy CAD investments, since they’ll get a hit on the round trip.

    • O.O 5 months ago

      What does “round trip” mean?

      • Trader Jim 5 months ago

        RT = buy/sell. If you buy a Canadian bond with a coupon of 3%, and by the time you get your money back and CAD drops 4% per year, you lost money. Inter-currency trades are important in attracting foreign capital, because Canada has historically had low private debt, and low and stable inflation.

        Now that debt levels are REALLY high, they’ll probably need to NIRP, demolishing any benefits of holding CAD. Foreign investment, which has been propping Canada, is going to drop. With it, the reputation for a great place to immigrate. Bank of Canada really screwed the pooch here.

      • Grizzly Gus 5 months ago

        I believe he means that the investor would be thinking about the fact that eventually they would have to sell their Canadian investment and convert the proceeds back into USD or their own currency.

        For example,
        Say I’m American and a million USD could buy me a 1.34 million dollar home in Canada today.

        If Canadian currency plummets. Even if I could get 1.5 million Canadian in the future for that home it might only be worth 900k USD when I convert it back.

      • Zenmechanic 5 months ago

        To buy Canadian shares on the TSX, foreign money needs to get converted to CAD. If CAD takes a dip after the conversion, when the foreign purchaser sells their shares and wants to convert back into their own currency to liquidate their gains, the value is less because CAD has been devalued. Or something like that.

    • 54 5 months ago

      When BoC unreasonably raises rates beyond capacity of economy, BD visitors say “its ok, it should be like this”.
      But when BoC makes one step back to compensate mistakes, BD people say “Oh no, its the end of the world, a bottle of coke will cost a trillion CAD”.

      • Credit Guru 5 months ago

        If everything was fine, rates would be flat and inflation would stay at the 2% mark. Have you ever lifted weights? You know that moment where your arms start to vibrate, right before failure? That’s what a rise and cut in just a few years means. Failure leads to sustainable growth, but you need to tear the muscle, feel pain, and rest before getting bigger.

        Hikes are designed to cool the growth of the economy. Canada didn’t hike because we had so much economic growth, they did it because households were over-consuming credit consumption. The cut is coming as confirmation that the economy was too weak to hike.

        The issue is prevalent if you look at a chart of home prices in Canada, based in USD or any other foreign currency. The big “bubble” in prices can’t be seen, because house prices increased based on local weakness. A cut makes these home prices that are flat in foreign currencies, fall due to devaluation of the currency.

        To sum it up in one sentence, it reveals that the world is not viewing the Canadian currency as a global growth story, it’s a local devaluation. Failing upwards is the short story. I know everyone is talking yield curves and falling rates, but there’s much more to the story than is understood by the average mortgage broker, or homeowner understands with a few short google searches.

      • RE EXPERT EXTRAORDINAIRE 5 months ago

        Ain’t it great! Unbiased people here. Lol! Sidelining it till the day they die.
        The amount of money lost here is astounding.
        Imagine everyone opened their mind to different possibilities of making money here.
        Then one might call them an “entrepreneur” but wutevs

  • Matt 5 months ago

    Been reading a ton of articles in MSM about mortgage rates being cut. Mortgage brokers on the news talking about how people will come back to market, because rates are coming down.

    Don’t they realize that anyone that can buy isn’t waiting for a 1 point cut on rates. Dumb money has already piled in, now the only thing they’re doing is setting a trap for people that may squeeze out the last of their savings to get in.

  • Thomas Hines 5 months ago

    The cut is going to make it lower than the print. Venezuela North, here we come.

  • Zenity 5 months ago

    I’m very sure most DSR for new mortgages from past 3 year are around 30-50% in Van and Toronto.

    Let the housing price correct, so this trend don’t continue for another 10 years and ruin Canadian economy and chase away our tax base.

  • Brian 5 months ago

    yup. what we are missing in the picture is the employment rate. Many companies are soaring from it’s corporate debt and massive hiring spree for past year and a half. Hiring freeze and lay offs are coming. Get your cash ready to pick those properties.

  • Bob Emery 5 months ago

    But it’s good debt, right?

  • SUMSKILLZ 5 months ago

    I’m still waiting for the F-U moment. Everyone expects a flatline or drop in rates, I expect one more bounce up, why? just because they can. Nobody always follows the path laid out for them by others. Something always goes off script.

  • RE EXPERT EXTRAORDINAIRE 5 months ago

    Yep. This is how money works.
    The more time that goes on the more things cost and the more debt people have. Nothing new.
    I bought some cheap houses outside of the GTA a few years back. Looks like I’m making money yayyy

  • RE EXPERT EXTRAORDINAIRE 5 months ago

    My dad and stepmom owe about 500 to 700k and make about 150 to 200k if I could guess. They are 70.

    • John 5 months ago

      I’m sorry, but at 70 they still owe 500 to 700 thousand?

      But make 150 to 200 thousand? Pennies? Surely we’re not talking dollars here.

      If by age 70 you have a top-tier wage and still don’t have your debt under control, then you’re either lying, wrong, or have no planned way out. None of which is good.

      Best of luck troll-extrodinaire

    • Grizzly Gus 5 months ago

      Nice so they have managed to stick to the household golden rule of only adding 100k in debt per decade. Hopefully the apple doesn’t fall to far from the tree

      • Joe 5 months ago

        Well, they could have jolly well kept refinancing and pulling out equity each time their mortgage was up for renewal to invest in other assets…for all you know, they have 2m+ of assets in financial instruments yielding much higher returns than the mortgage rate they are paying.

        If that’s the case, who is the smart one here?

        • John 5 months ago

          All I know is the information at hand.

          70somethings who make a lot and owe even more. At 70something.

          Given this is a real estate blog, and the numbers presented are presumably real estate related, I think it’s important that genuine readers who are more susceptible to suggestion than others be warned:

          The presented comment from RE EXPERT EXTRAORDINAIRE is a lie at best. At worst, it’s a family who is blindly sold out their golden years for the–often millennial associated–instant gratification of credit.

          But for all you know I could be a kook in an institution. YMMV.

        • RE EXPERT EXTRAORDINAIRE 5 months ago

          I dont get right into their finances with a fine tooth comb because they are more successful than myself and dont require any assistance but from what I know they do pull money out and refinance.
          They are the rrsp type and own a cottage outright. They go on 4 vacays a year and live in Toronto and bought they’re home for 450k or so 10 years ago.
          Dont worry about them John they will be ok.
          One of them still works downtown Toronto with an administration job because they are the busy type and has a teachers pension. I wont do all the math but 2 old age pensions, teachers pension, several 100k in rrsp payments, 1 million or so in properties with 5 to 20 years left of living I would say they’re ok lol. Another troll eh John? I would say you’re just another loser with a closed narrow mind that is too scared to make any moves and just wants things given to him. I know lots of you. You are very standard. Thanks for your money.

        • RE EXPERT EXTRAORDINAIRE 5 months ago

          Joe- that was actually pretty good lol. I think they are somewhere around there. Very strategic and smart. One of them has worked for the government for years, still has their own company.

          • Joe 5 months ago

            RE EXPERT EXTRAORDINAIRE – There is still possible upside of real estate even in current conditions (in your example, it was used as a leverage). Many here are really very negative and will not hear otherwise. In every financial decision, there is a risk/reward and sometimes looking at the general trend on how things are to gauge an investment strategy isn’t holistic.

            *You can make money even in a recession, you just need to be smart with your actions*

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