Canadian loan trends: 2025 and beyond

Economic and market backdrop

On the one hand, most businesses have adapted to the post-COVID-19 era and the associated “new normal”. Corporate borrowers, by and large, understand their businesses in terms of new consumer behaviours, normalized supply chains, stability in revenues and expenses, and accommodative monetary policy.

On the other hand, the flurry of tariffs both threatened and imposed by the Trump administration is injecting uncertainty. While Canadian companies that sell goods targeted by the tariffs into the U.S. are most affected, the downstream effects on parts, supply chains, and the Canadian economy at large are significant. Second-order unknowns include the extent of retaliatory tariffs, escalating counter-measures, and the potential policy response of the Canadian government to alleviate the impact of a trade war through monetary and/or fiscal policies, as it did in the early COVID-19 period.
 

 
The impact of AI on businesses and global economies is also becoming increasingly relevant. Companies that can harness the power of AI and intelligent robotics will stand to benefit from competitive advantages, greater efficiencies, and lower costs. Conversely, governments will have to grapple with job disruption and displacement as more tasks are performed by agentic AI and intelligent robots, all of which are a deflationary force that may require a recasting of what GDP per capita means¹.

Looking ahead, forecasts suggest modest economic growth of around 1.5% for 2025, with expectations of continued below-potential expansion. Lower interest rates are anticipated to support consumption and investment, though uncertainties persist, particularly with trade policies.

Tariffs and trade wars

The Bank of Canada warns that new U.S. tariffs and potential retaliatory measures could dampen future economic performance. Corporate borrowers may want to proactively assess their financial positions, engage with lenders early, and explore diversified financing strategies to manage these evolving challenges.

Canadian borrowers and lenders are actively addressing the uncertainties introduced by recent U.S. tariffs and trade tensions, particularly in their impact on loan agreements. Two contractual provisions have become focal points in this context: force majeure clauses (as a defensive shield) and material adverse effect (MAE) clauses (as an offensive sword).

• Force majeure: The applicability of force majeure clauses to tariffs is complex and largely depends on the specific language of the contract. In lending, force majeure clauses are most prevalent in project financing, P3 and infrastructure deals; notably, these clauses are a standardized termination event under the ISDA Master Agreement for derivatives arrangements.
  
  Finance counterparties with typically formulated force majeure clauses should not assume that tariffs would necessarily qualify as a force majeure event unless specifically included in the clause. Businesses impacted by the tariffs may be advised to review their financing contracts and, if necessary, broach the topic with their lenders and consider amending their agreements to explicitly address tariffs within their force majeure provisions to ensure clarity and enforceability, for instance, by expressly including or excluding the impact of tariffs.
• MAE clauses: The ability to invoke an MAE clause on the grounds of tariffs will depend on the clause’s wording and the extent of the financial impact. To mitigate risks, borrowers potentially implicated by tariffs should consider proactively engaging with lenders to discuss potential impact on financial performance. This may involve negotiating waivers, adjusting financial covenants, or restructuring debt to accommodate the increased costs associated with tariffs. Lenders should assess the circumstances of each borrower, considering direct and indirect effects of tariffs on their operations before deciding to enforce MAE clauses. In Canada especially, a lender electing to accelerate the loan and enforce remedies against its borrower based on an MAE-default could be considered draconian and may carry reputational risks.

The rise of private credit

Private credit has grown tremendously over recent years, with global volumes forecasted by many financial firms to grow to as much as $3 trillion by 2028. This growth in the private credit market has been largely in the U.S., fueled by several factors, including regulatory changes, that have resulted in banks scaling back their lending activities. The private credit market in Canada has experienced growth but remains relatively underdeveloped compared to the United States. This disparity can be attributed to:

• the dominance of Canada’s “Big Six” banks, which control a large percentage of the lending market; and
• the fact that the factors contributing to the growth in the U.S. have not been present in Canada.

While we have seen an increase in Canadian private credit funds, many funds choose to deploy their capital south of the border and in other regions to achieve their desired returns.

Looking ahead, it will be interesting to see whether the current trade conflict will drive any of the Big Six banks to pull back from lending to certain sectors, thereby creating opportunity for private credit as an alternative source of capital. We may also see an increase in stress on maintenance covenants in existing credit facilities with Canadian banks, which could also open the door to private credit lenders who generally are able to offer more flexible terms and may be able to support complex capital situations. Lastly, if we find ourselves in a recessionary environment, distressed companies may turn to private credit for liquidity and support. Often, private credit is noted for its ability to structure around unusual economic impacts and fill in gaps when other suppliers of capital pull back. Whether or not this becomes the case in Canada remains to be seen.

Sustainability-Linked Loans

Sustainability-linked loans (SLLs) have become an integral component of Canada’s sustainable finance landscape, gaining traction among Canadian corporations and financial institutions aiming to align financing strategies with sustainability objectives. However, the recent executive orders by the U.S. government aimed at dismantling diversity, equity, and inclusion (DEI) programs may have implications and present complex challenges for Canadian companies with cross-border operations that have an SLL with a DEI component.

Canadian companies with U.S. operations and an SLL that includes DEI components may encounter U.S. regulatory probing of any DEI metrics in an SLL. This could potentially lead to a need for borrowers and lenders to reassess and modify their DEI metrics within the SLL agreement. Canadian companies with SLLs and U.S. operations may want to conduct a review of the key performance indicators (KPIs) and specific performance targets within their SLL to ensure compliance with both Canadian and U.S. regulations. For Canadian companies with cross-border operations, the sustainability focus in any new SLL will likely trend towards environmental rather than social due to the current U.S. environment. We anticipate that we may also see an increased number of amendments to SLLs in 2025 to modify the KPIs to remove or revise the DEI metric or to otherwise ensure the DEI metric is jurisdictionally limited in scope or to segregate the SLL into a separate tranche held by lenders that are not subject to U.S. restrictions.

CDOR transition

For those subjected to the transitioning of nearly the entire Canadian loan market (or some approximately $20 trillion worth of CDOR-based loans and derivatives products) over to a CORRA benchmark interest rate, the good news is this saga is now almost fully in the rear-view.

One lingering facet of the CDOR era relates to whether or not to include a credit spread adjustment (representing the market consensus delta between the risk-free rate and the interbank funding rate) in addition to the deal margin (representing a particular borrower’s idiosyncratic risk premium). The issue can be summarized as follows:

• In the old regime, CDOR represented the unsecured, interbank borrowing rate between Canada’s largest financial institutions for various fixed terms (for example, 30 days and 90 days). As such, inherent in the CDOR rate was both a credit premium for the banks as well as a time-value-of-money premium for the fixed periods.
• In contrast, the new and improved rate of CORRA represents a “risk-free” rate because it is derived from the overnight lending cost of secured, Canadian treasury-backed securities. As such, CORRA has neither a credit premium nor a time-value-of-money premium, meaning that the CORRA rate is nearly always lower than the CDOR rate in nominal terms.

When global loan and derivatives markets began the move from credit-sensitive rates (like CDOR and LIBOR) to risk-free rates (like CORRA and SOFR), the question arose as to how existing loan agreements would “convert” the former to the latter. To use an analogy, credit risk was previously measured in inches and is now being measured in centimeters, so a conversion factor is needed. The answer was to use credit spread adjustments, which were necessarily anchored to a world where credit risk was priced off of a CDOR credit baseline.

Today, we are seeing many, if not most, loan agreements eschewing credit spread adjustments, with lenders increasingly thinking in CORRA terms. We expect this trend to continue, and those relying on older CDOR-based precedents are encouraged to follow the market tide by removing references to credit spread adjustments and pricing loan deals solely on CORRA.