Home prices across Canada are overvalued by approximately 20% in real terms on an estimated basis, according to Fitch’s exposure draft of a new model framework for estimating losses on prime residential mortgage pools in that country.
However, “because of the effects of inflation and price momentum, Fitch does not expect that prices will fall by this amount immediately in practice.
“If growth halted tomorrow and prices began to drop, Fitch expects that it would take several years for home prices to return to sustainable values. This depends on a number of factors such as government support and credit availability.
“Within this time frame, the observed nominal decline in home prices could be as low as 10%,” analysts at the company said in a report.
Fitch said its findings are based on a regression of loan and borrowers attributes on roughly 1 million Canadian prime residential mortgages originated between 20003 and 2008.
The company used performance data from “several major Canadian banking institutions” and loss severity data “provided by another large banking institution,” which it used to calculate loan level loss severity.
Fitch’s model framework also includes the application of a proprietary sustainable home price model it has, which measures a property’s sustainable value as well as the borrower’s sustainable loan to value ratio to determine loan level default risk.
Through regression analysis, the company identified borrower equity as the strongest driver of default, according to its recent report.
Fitch also identified five other factors predictive of default, with borrower credit score ranking second. The other factors are debt service ratio, loan purpose, occupancy, and property type.
Fitch plans to apply the new model to analyze new and existing ratings for
The company will be accepting
Following the review period, Fitch expects to finalize the proposed criteria next month.
