In its first annual risk outlook, released on Thursday, the Office of the Superintendent of Financial Institutions (OSFI) details critical risks facing Canada’s financial system and the regulator’s plans to address them.
Risks in the 2022–2023 outlook range from cyberattacks and digital innovation (e.g., cryptoassets and decentralized finance) to real estate–related considerations and corporate debt funding.
With transparency about risks and the associated regulatory responses, “we commit ourselves to strengthening the prudential oversight framework for Canada’s federally regulated financial institutions and pension plans which, in turn, will add to financial system resilience,” said Peter Routledge, OSFI superintendent, in a release.
The report describes corporate debt, for example, as a “significant” exposure for banks and lifecos.
“There has been increased reliance on high-yield debt and leveraged loans, including covenant-lite loans, which contain fewer protections for lenders,” the outlook said. “These assets are vulnerable to a large global repricing and constrained access to liquidity and capital.”
Further, the “uncertain and volatile environment” could lead to increased financing cost and difficulties issuing or rolling over debt, resulting in heightened credit losses for financial institutions.
As a result, OSFI is monitoring debt funding, especially the most leveraged transactions, the outlook said. And the regulator is consulting with financial institutions about stress testing and vulnerabilities related to leveraged lending.
Further, OSFI will conduct supervisory reviews of corporate debt exposure and leveraged loan risk management practices of selected institutions.
The annual outlook supports the regulator’s operational plans in 2022–25, the regulator said.