Canada Mortgage and Housing Corporation recently announced changes in its underwriting policies that will make it harder for home buyers to qualify for a mortgage in the future. CMHC stated that the reasoning behind rolling out these changes is the expected home price reduction that the market is likely to see in the aftermath of COVID-19.
CMHC’s announcement about new underwriting rules has not been met with warmth in the industry. Two major private insurers declared that they wouldn’t be following CMHC’s lead and changing underwriting requirements for their borrowers.
New underwriting rules
The changes CMHC announced regarding new home applications (effective July 1) are significantly stricter than before. The GDS/TDS ratio has been changed from the previously lenient (39/44) to a relatively stricter (35/42).
The minimum credit requirement has also been pushed up from 600 to 680. Down payments from non-traditional sources (a loan, for example) that increase the debt burden of the home buyer are no longer acceptable.
CMHC claims that these changes are made to protect prospective home buyers and reduce risk. While these new requirements will certainly reduce the insurance risk for the company, they will also cut the potential home buyer pool substantially. Many home buyers that would have qualified for a mortgage before won’t be able to do so with these rules in place.
For a company that is aiming for 100% homeownership in the country by 2030, this move seems rather counterproductive. But that’s actually in line with CMHC’s debt management policies. Two private insurers, including Genworth MI Canada (TSX:MIC), have declared that they won’t be adopting these new underwriting rules, and will instead rely upon their existing model.
A private insurance company
The Genworth stock had a pretty decent run before the crash. It grew over 85% in the past five years (before the crash). Genworth is also a Dividend Aristocrat with a growth streak of 11 consecutive years. The company has a market cap of $3.2 billion, the total debt of $747 million, and a cash pile of $373 million.
The housing market was hit pretty hard in the pandemic, which is reflected in the stock price depreciation of Genworth. The company is currently trading $37 per share, about 36% down from its pre-crash value.
This makes it one of the most discounted stocks in the financial sector. The low valuation has also pushed the dividend yield to 5.83%, with a safe payout ratio of 43.66%.
According to the first-quarter results, the company grew its net operating income (by $5 million) and managed to maintain its premium earned, compared to the last quarter. The company also provided two generous special dividends to its investors this year.
The strict underwriting policy is expected to have two effects — the first is that prospective homeowners that now don’t fit the requirements for mortgage approval may stay away from the market for a while (or seek mortgage institutions that will be willing to lend to them).
As well, many prospective buyers might start converging on the housing market before the new underwriting rules take effect.