IFRS + ACM = Trouble for Trustcos?

Assiduous Reader JP Koning brings to my attention a column by Barry Critchley in the Financial Post titled David-Goliath matchup:

The Office of the Superindendant of Financial Institutions advisory states that as of Jan. 1 2010, National Housing Act MBS’s that are securitized will move from being an off balance sheet item to a balance sheet item, a move that boost the institution’s ACM ratio. At the margin, such transfers could limit the amount of securitizations that are completed in Canada every year, securitizations that lower the cost of mortgages more than otherwise.

While market participants await an updated advisory, some small players are less than happy with what has been proposed. The Trust Companies Association of Canada, a group of 19 member firms, has written to OSFI and to the Minister of Finance and given their views on the details included in the advisory. The members, whose largest include Community Trust, Equitable Trust and Home Capital, have more than $16-billion in outstanding mortgage backed securities.

If the rules in the OSFI draft advisory do go into effect, the letter says “many trust companies and indeed other regulated financial institutions, will have no effect but to exit or significantly reduce MBS/CMB program activity as the cost of incremental capital required to meet the ACM constraint will make these activities unprofitable.”…”Unregulated companies may seek to increase their presence to fill some of the void in the supply of mortgages for the MBS/CMB program.”

I would like to read and link to the actual letter, but as far as Google and I know, the TCAC doesn’t have a web-site. Highly peculiar. However, an examination of their stationery does reveal a ‘phone number, so at least they are bravely coping with the technological advances of the 19th century.

As I have repeatedly stressed over the past two years, increased regulation will improve the competitive position of non-regulated entities; whether this involves market making and prop trading by hedge funds or, it appears, mortgage sourcing by small financial institutions.

One thing that interests me about the current situation is the economics of mortgage sourcing. The TCAC claims that incremental cost of capital will result in the activity becoming upprofitable, but will this apply to all players? If so, then logically the IFRS/ACM interaction will simply push up the price of mortgages from all regulated players. If not, then what is the difference? Gross Margins, net margins, cost of capital, or what?

One point emphasized by Mr. Critchley was:

One academic, who requested anonymity, argued that through the new rules, OSFI is effectively creating an unfair advantage for unregulated players in the mortgage market “I think the credit crisis has taught us that it’s better to have large-scale lending operations [such as residential mortgages] in line of sight of the regulators and for borrowers to have the capacity to balance sheet their production [using deposits] if capital markets become shaky.”

I’ll have to think about that one. In a crisis that involves a lock-up of the mortgage market, there’s not likely to be much balance sheet room to spare for even the best-capitalized institutions; both the Canadian and US authorities have injected money into the economy by buying securitized mortgage paper in immense blocks. Additionally, a big chunk of the credit crunch happened precisely because securitizers were balance-sheeting their production, albeit in different branches of the firms. Admittedly, they were retaining the credit risk in addition to the funding, but still the anonymous academic’s argument is unclear to me.

One Response to “IFRS + ACM = Trouble for Trustcos?”

  1. JP Koning says:

    TCAC must have had some sort of effect. OSFI is letting institutions exclude from the calculation of their asset to capital multiples those mortgages sold by March 31, 2010 rather than the end of 2009.


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