The COVID-19 pandemic has had a far-reaching impact on global economies, government policies, and communities worldwide. The Credit Union Securitization Team at Concentra felt the impact as well. Our team was following new economic stimulus measures and changes to rules in our program, while processing nearly double the volume of the previous year.
The Canada Mortgage and Housing Corporation (CMHC) Securitization programs in Canada remained a liquid, effective and robust tool throughout the pandemic, which many credit unions have been able to rely on. By June 2020, total credit union volumes in CMHC Securitization programs nationwide had exceeded the entire previous year’s volumes.
The Bank of Canada used the program to ensure Canadian financial institutions had access to liquidity. Each week, $500M of Canada Mortgage Bond (CMB) purchases took place and an Insured Mortgage Purchase Program (IMPP) was installed, with the promise of purchasing up to $150B in Mortgage-Backed Securities. However, as liquidity remained strong in securitization markets, only $5.8B was used in the IMPP program.
The reinstallation of the IMPP, (which was also used in the 2008 financial crisis), shows the federal government’s continued support of these programs in times of economic stress, and its understanding of how effectively the National Housing Act Mortgage-Backed Security (NHA MBS) Program can be used to ensure liquidity in the banking sector.
In a surprising turn of events, savings rates increased to 28.2 per cent in Q2 2020 (from 3.1 per cent the previous year) causing credit unions to have excess liquidity . As a result, new strategies have emerged and many of our credit unions are issuing MBS pools and leaving them on book to ensure access to liquidity without adding to their liquidity glut. We are working with our credit unions and continue to adapt to the changing landscape.
NHA MBS in a nutshell
Securitization is the practice of combining various debt obligations (residential mortgages, commercial mortgages, auto or credit card loans) into consolidated debt instruments such as Mortgage-Backed Securities (MBS). The bundled debt is sold as a bond, using the underlying debt obligations as security. The NHA MBS and CMB programs, offered through CMHC, allow credit unions to issue low-cost, government-backed bonds bearing the AAA rating. The AAA rating is due to a timely payment guarantee from the government, even in the case of an issuer default. The timely payment guarantee, as well as the structured requirements of the program, creates significant investor comfort. This means the program offers an effective liquidity tool even in times of crisis.
A competitive tool
Securitization is a powerful financial tool that allows credit unions to diversify funding sources, achieve balance sheet growth, provide competitive loan pricing to their membership, enhance market share, and combat margin compression. Throughout the last six months, two main benefits have given the tool more fanfare:
- Funding outside of the credit union system: Credit unions often do not have access to the wide range of market instruments that big banks in Canada do. However, credit unions that are approved issuers have access to funding outside of their credit union liquidity providers. Due to CMHC’s equal allocation framework, credit unions have the same access as the big banks.
- Low-cost funding to remain competitive: Due to the AAA bond rating, investor comfort and federal backing, this program creates the lowest-cost funding for residential mortgages in capital markets. Additionally, all bonds issued under the CMHC Securitization programs are treated the same, meaning credit unions access the same funding costs as the big banks. This key strategic equalizer allows credit unions to remain competitive on rate. With total cost of funds on five-year MBS bonds at below one per cent, the program allows issuers to generate more than 100 bps of locked-in margin at five-year mortgage rates of 1.99 per cent.
A new strategy: MBS as HQLA (high quality liquid assets)
Throughout the last six months, the Credit Union Securitization team at Concentra has been working with credit unions to ensure they are able to shore up liquidity. Everyone has excess liquidity right now but is unsure whether it may draw down during these uncertain times. We have steered many credit unions to the practice of issuing NHA MBS and leaving it on book (or what we call MBS as HQLA). Since NHA MBS bonds are considered Level 1 HQLA assets, there are multiple benefits to this strategy:
- Faster access to liquidity: When financial institutions issue MBS and leave them on balance sheet, it allows them to convert their loans into marketable securities ahead of time. Instead of having a two- to three-week lead time on access to liquidity, a sale and subsequent access to funds can take place within one or two business days.
- Hold MBS on books and earn a higher rate: Holding MBS as HQLA is a common practice for all OSFI-regulated entities because it allows for higher yield in comparison to other types of HQLA. When a credit union holds their own MBS, they earn the rate of the mortgages in the pool (less CMHC and securitization administration fees). This is often significantly higher in comparison to other Level 1 HQLA assets.
- Flexibility and lower cost of funds: Holding MBS on balance sheet allows credit unions to take advantage of lower cost of funds while supporting access to liquidity if needed. For example, in spring 2020, the cost of funds in the IMPP was approximately 30 bps higher in comparison to the June CMB. Issuing MBS in April and holding it on balance sheet allowed credit unions to access the IMPP if needed, while potentially taking advantage of the lower cost of funds in the June CMB, depending on liquidity needs.
- Efficiently diversifies sources of liquidity: The cost per year of the custodial account is minimal and facilitates an excellent alternative strategy to quickly access liquidity outside the provincial Centrals during periods of liquidity drawdowns.
The requirements for this strategy are an NHA MBS issuer status as well as a custodial account. Concentra Trust can assist with the custodial account, and our Credit Union Securitization team often works with our credit union partners to achieve issuer status.
How to get involved
If you are not already an approved issuer and would like to get involved, contact our team and we can assist you. The key requirements include:
- Generating sufficient residential mortgage volumes: For the tool to be effective, the credit union would generally need to be able to generate minimum volumes of $2MM–$5MM of the same term residential mortgage product in a six-month period. This would allow them to create pools of a sufficient size and benefit fully from the program.
- Working through the issuer application process: The credit union must complete an application package to become an approved issuer. This process takes about three to six months. To date, Concentra has assisted 26 credit unions through this process, and provided consulting services to make the process as easy as possible.
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