Regulator pressed CIBC board on slow pace as mortgage problems persisted

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The federal banking regulator is disappointed with Canadian Imperial Bank of Commerce’s CM-T slow progress in fixing underwriting lapses in its mortgage portfolio and expressed its concerns to CIBC’s board of directors at a meeting in May, the sources say.

The Globe and Mail reported last month that CIBC is under remediation orders from the Office of the Superintendent of Financial Institutions (OSFI) after a routine audit last year of its mortgage portfolio uncovered violations of rules limiting the level of debt to borrowers.

Over the course of months, OSFI’s concern over CIBC’s progress and thoroughness in diagnosing and fixing issues has escalated, leading up to a meeting in May when the regulator raised the issue of board of CIBC, according to three sources familiar with the matter.

Since CIBC is still in remediation, a person who identified himself as a CIBC employee wrote an anonymous letter of complaint to OSFI in mid-June. It is alleged that within the bank, the leaders of CIBC initially tried to eliminate the seriousness of the mortgage lending issues that were discovered, taking the remediation process, according to the copy reviewed by The Globe.

As CIBC works to address the regulator’s concerns, BOTH Directors from CIBC’s board are directly involved in the process. They hold repeated meetings with staff groups, some of whom are mid-level employees, to get updates on the progress of the remediation process. – an unusual level of direct contact with operational issues for members of the board of a large financial institution, two of the sources said.

The two directors who directly intervened were Barry Zubrow, the former chief risk officer of JPMorgan Chase & Co. , the sources said.

The Globe did not identify its sources because they are not authorized to discuss the bank’s confidential regulatory process.

OSFI meets regularly with the financial institutions it manages and has regular contact with bank boards. When problems arise, the regulator works with banks to resolve issues in strict confidence, and the interactions are not disclosed to the public.

However, sources say that what has happened in recent months is unusual – either in the displeasure of the bank’s OSFI or the directors of the close management of daily repairs.

Neither chief executive officer Victor Dodig, nor senior executives who report directly to him were present at the numerous meetings convened by the two board directors, one of the sources said.

OSFI’s concerns over CIBC’s underwriting losses come at a sensitive time. The regulator has been concerned about the competitiveness of the Canadian housing market with rising interest rates, and recently identified the potential for a downturn in the housing market as the most pressing of the nine key financial sector risks it tracks.

OSFI has publicly stated that financial institutions must quickly identify and respond to credit risks, while helping borrowers who are struggling to manage their debt during times of stress.

CIBC declined to comment for this story or respond to detailed questions sent by The Globe. Mr. Zubrow and Ms. Maher did not respond to requests for comment.

OSFI declined to answer The Globe’s questions, due to legal obligations that require the regulator and the financial institutions it manages to keep supervisory information confidential. In general terms, OSFI spokesman Shane Diaczuk said the unauthorized release of such information is “unacceptable” and “could be grounds for serious legal or supervisory consequences,” and that the regulator will consider all available forms of recourse.

In an earlier interview last week, the OSFI superintendent Peter Routledge – who leads the regulator, and is at the May meeting with CIBC’s board – refused to comment on the remediation of the bank’s mortgage, citing the same legal constraints. But he emphasized the “high floor for underwriting standards” set by the regulator’s guidelines for mortgage lenders, which he said would help identify issues early.

CIBC’s mortgage underwriting lapses involved thousands of clients, many of whom had lines of credit secured against their homes. When these lines are combined with a CIBC mortgage, the total credit available sometimes exceeds the permitted regulatory limits.

The issues discovered in CIBC’s mortgage book were administrative in nature, and had nothing to do with fraud, the three sources said. They too is not expected to have a material financial impact on the bank or lead to a higher loan amount.

However, they first became known when OSFI asked to audit a sample of CIBC loans. Two of the sources said that about a quarter of the mortgages in the small sample violated the regulations – a high proportion that caught the attention of the regulator.

The discovery of those violations is a blemish on CIBC’s track record after Mr. Dodig spent nearly nine years as CEO working to recast the bank and its image, overcoming past wrong step. CIBC has also worked hard to strengthen its mortgage business over the past five years. The bank went from being the market leader in 2017 to a laggard two years later, but eventually caught up with rivals.

In that context, the one-year OSFI remediation process is an unwanted headache for a bank that wants to show the market that its mortgage business is performing well. And it’s a waste of resources at a time when all the big banks are trying to tighten their belts. CIBC spent tens of millions of dollars on remediation, two of the sources said.

Residential loans also make up more than half of the bank’s total loan book, giving them a proportionally higher exposure to home loans than any of its rival banks.

After OSFI discovered the first underwriting lapses, CIBC hired consultants from Deloitte to help screen its mortgage book for similar issues, and to help restructure the bank’s systems to avoid further problems. That led to the discovery of thousands more breaches in the following months. And even recently, more lapses have been identified, according to two of the sources.

The remediation process is still ongoing and some internal estimates suggest it will take two more years to complete, two of the sources said.

The anonymous letter of complaint sent to OSFI last month also alleged that Mr. Dodig was not transparent with investors on another matter: Profit margins. CIBC’s income on certain loans.

At a bank conference in January, Mr. Dodig was asked about speculation that profit margins on some mortgages had turned negative over a period of time. He told the audience that as interest rates rose last year, “you had pockets of time, end of October, early November, where you had slightly negative mortgage margins.”

Profit margins are typically about 60 to 80 basis points — or 0.6 percent to 0.8 percent — “so hovering in the zero range for a period of time, not for us, but for the entire industry “Mr. Dodig said. “We are still competing with strong competitors. That is now progressing. “

The letter says that, in fact, CIBC has been pricing some loans at negative margins for several months. Home loans priced with a negative net interest margin – the difference between its earnings on loans and payments for funding – amounted to tens of billions of dollars in a year’s time, the letter said, citing of the information presented by the senior staff of the bank.

One of the sources confirmed that CIBC has been issuing bonds at negative margins for several months dating back to the period of intense market stress in late October and early November. Mr. Dodig mentioned in his comments.

CIBC’s profit margins on loans came under pressure for a number of reasons last year, including the bank’s strategy to hedge its exposure to rapidly rising interest rates, large inflows of deposits in fixed-term accounts such as GICs, and the push to match aggressive mortgage pricing. among competitors, according to two of the sources and a third person familiar with the business.

The author of the anonymous letter accused OSFI that Mr. Dodig’s comments could “mislead investors” about the pressure its mortgage business is facing.