Quarter of mortgages in Auckland linked to property vulnerable to flooding

A man tries to clear the drain outside his house in Greenlane during the worst flooding the Auckland region has ever experienced. Photo / Dean Purcell

Around a quarter of banks’ residential mortgage lending in Auckland is linked to land that touches a flood zone, new Reserve Bank (RBNZ) research has found.

This is equivalent to around 12 per cent of all their mortgage lending across the country.

Meanwhile, a smaller portion of banks’ national residential mortgage books are linked to properties in coastal flood zones vulnerable to sea level rise.

Indeed, 2.5 per cent of mortgages would be exposed if the sea rose by 50 centimetres. This portion would rise to 3.8 per cent with a metre of sea level rise.

The RBNZ undertook this research by collating data from banks to better understand the climate-related risks that could compromise the stability of the financial system.

It concluded that banks would have enough capital - even in the most severe scenarios it modelled - but only if shocks happened in isolation.

It said it had more work to do to understand how flood risk could potentially compound with other risks to the financial system, like those borne by a recession.

“As flood risk increases, the financial system is likely to face simultaneously a broader range of climate-related risks, such as global and national transitions risks, including from more stringent emissions pricing over time,” RBNZ deputy governor Christian Hawkesby said.

“Our forthcoming Climate Stress Test will further improve our understanding of the combination of these risks to banks’ balance sheets. The scenario for that stress test is due to be published later this year.”

The banking regulator said the purpose of the research was to support banks to better identify and manage climate risks.

The RBNZ suggested banks could, for example, consider requiring those seeking mortgages to buy at-risk properties to have larger deposits relative to the size of their loans, if not restrict lending in certain parts of the country altogether.

However, it recognised the nature of, and need for, banks taking actions to reduce their exposures to climate risk depended on a range of external factors - the biggest of these being the outlook for the availability and affordability of insurance.

“If the ability to privately insure an at-risk property is reduced or removed then this significantly increases the risk of bank loss on existing loans; and would, by amounting to a breach of lending conditions, rule out the issuance of a new mortgage on this property.”

Coming back to the RBNZ’s modelling, it found that if severe rainfall in Auckland saw home values fall 30 per cent, not too many mortgages would be in negative equity. So, banks would only have to increase their provisions for expected losses by 9 per cent.

But if rainfall prompted values to fall 60 per cent, banks’ provisions would need to increase threefold from the baseline scenario.

An important caveat is that the RBNZ used March 2022 house prices in its modelling. Values have since fallen and interest risen, making mortgage-holders more vulnerable.

“The jump in provisions under the very severe sensitivity [a 60 per cent fall in prices] is around double the outcome for coastal flooding when sea level has risen one metre and very severe property price falls are experienced,” the RBNZ said.

“This is reflective of the concentration of mortgage exposure in Auckland rainfall flood zones relative to the national coastline... As with coastal sensitivity results, the Auckland rainfall sensitivity shows that flood risk-driven changes in property values would affect the capital profile of the largest banks in Aotearoa New Zealand, but not to a degree that threatens their solvency or business model.

“However, these provisioning expenses would reduce bank profits, and potentially dividends. Moreover, if flood risk went unmitigated this would, however, put entities in a position where they are more vulnerable to other shocks such as an economic downturn.”