ACCC Focuses On Banking Reform

Rod Sims, Chairman ACCC spoke at the AFR Banking and Wealth Summit “Synchronised swimming versus competition in banking”. His excellent speech is worth reading in full. Net, net, the tempo for reform just got stronger still….

He discussed the results of their recent investigation into mortgage pricing, and also discussed the broader issues of competition versus financial stability in banking. He warns that the industry should be aware of, and respond to, the fact that the drive for consumers to get a better deal out of banking is shared by many beyond the ACCC. Every household in Australia is watching.

He specifically called out a lack of vigorous mortgage price competition between the five big Banks, hence “synchronised swimming”. Indeed, he says discounting is not synonymous with vigorous price competition. They saw evidence of communications “referring to the need to avoid disrupting mutually beneficial pricing outcomes”.

He also said residential mortgages and personal banking more generally make one of the strongest cases for data portability and data access by customers to overcome the inertia of changing lenders.

Finally, on competition. he says if we continue to insulate our major banks from the consequences of their poor decisions, we risk stifling the cultural change many say is needed within our major banks to put the needs of their customers first. Vigorous competition is a powerful mechanism for driving improved efficiency, and also for driving improved price and service offerings to customers. It can in fact lead to better stability outcomes.

This puts the ACCC at odds with APRA who recent again stated their preference for financial stability over competition – yet in fact these two elements are not necessarily polar opposites!

As the economy-wide competition and consumer regulator, the ACCC has always had a role in the banking sector. It is fair to say, however, that our role has been reactive to date, focusing on pursuing breaches of the Competition and Consumer Act 2010.

For example, following an ACCC investigation the Federal Court, 16 months ago, imposed a penalty of $9 million against ANZ and $6 million against Macquarie for attempted cartel conduct.

We’ve also always had a role in considering mergers in the banking sector.

But following the Treasurer’s 2017/18 Budget announcement, the ACCC now has a proactive role in the financial services sector. We have established a permanent team within the ACCC, the Financial Services Unit (FSU), to investigate competition in our banking and financial system.

The FSU was originally a recommendation of the Coleman Committee Review of the Four Major Banks in November 20161, which said:

… the Australian Competition and Consumer Commission… [should] establish a small team to make recommendations to the Treasurer every six months to improve competition in the banking sector.

If the relevant body does not have any recommendations in a given period, it should explain why it believes that no changes to current policy settings are required.

The FSU will undertake regular inquiries into specific financial service competition issues, and so facilitate greater competition in the sector.

The first task of the FSU is the current Residential Mortgage Price Inquiry; the interim report was released on 15 March.

In addition, the Government has recently announced that the ACCC will be the lead regulator for the consumer data right, with banking being the first sector covered.

Clearly our role in the financial sector will be more active than it has been in the past.

Today I will cover three topics.

  • The findings from the interim report from our Residential Mortgage Price Inquiry
  • Data as a competition driver, and
  • Stability and competition; the topic we avoid but must talk about.

1. Residential mortgage price inquiry findings

Our interim report indicates quite clearly, based on evidence we have collected, that not only does competition in the banking sector need to improve, but that where there appears to be competition it may often be illusory.

A number of issues were raised in the interim report; today I will concentrate on three:

  • The transparency of interest rates
  • The treatment of loyal customers compared to new customers
  • Why discounts do not indicate vigorous competition.

The transparency of rates: apples and oranges

It is the nature of competition that similar goods can be compared; you need to be able to compare apples with apples.

It is the nature of residential mortgage products, however, that no two apples are alike (See chart 1).

Chart 1: Total variable residential mortgage book by size of discounts – 30 June 2017

Total variable residential mortgage book by size of discounts 30 June 2017

The headline price is a starting price which may then vary by as much as 78–139 basis points below the applicable headline interest rate.

Over the life of an average loan, and this is crucial, we are talking about discounts which amount to life-changing amounts of money for average income earners.

These discretionary discounts do give borrowers a better price, but easy comparison is almost impossible.

Lenders determine discretionary discounts against a range of criteria, some of which are opaque to the borrower.

Since the decision criteria for discretionary discounts vary across lenders, borrowers can find it difficult to determine in advance what, if any, discount they may be eligible for.

Further, discretionary discounts may only be applied and known deep in the application process, and borrowers may even be required to lodge a loan application to confirm the discretionary discount available to them.

And to compare one product with another, the whole process needs to be repeated each time.

Borrowers essentially need to go through the time-consuming process of lodging an application with multiple lenders in order to make an informed decision.

These requirements increase the time and effort associated with obtaining accurate interest rate offers, making it difficult for borrowers to determine the range of effective interest rates available to them (see chart 2).

Chart 2: Headline and average interest rates7 paid for standard8 variable interest rate residential mortgages —owner-occupier with principal and interest repayments9

Offers for new customers versus rates available to existing customers

When it comes to residential mortgages, it pays to be a new customer as discounts are a key tool used by residential mortgage lenders to secure new borrowers.

Due to the difficulty of changing your existing loan, existing customers are assumed to be ‘locked in’. For good reason. In most cases, they are.

In recent years, residential mortgage lenders have been increasing the discounts offered to their new borrowers compared to the discounts offered to new borrowers in the past (see chart 3).

This practice has resulted in new residential mortgage borrowers often paying a lower interest rate than existing borrowers.

Based on data supplied by the big four banks for 30 June 2015, 30 June 2016 and 30 June 2017, existing borrowers on standard variable interest rate residential mortgages were paying interest rates up to 32 basis points higher (on average) than new borrowers.

Chart 3: Average interest rates paid on standard10 variable interest rate residential mortgages by new and existing borrowers—owner-occupier with principal and interest repayments

On a $375,000 mortgage, 32 basis points would save approximately $1200 in interest over the first year of a loan alone.

Banks are clearly saying to their customers: “if you want a lower interest rate you will need to keep switching lenders.”

Why discounts do not indicate vigorous competition

In response to the above, the banks and their representatives have said that, in effect, “discounts indicate vigorous competition”.

Discounting is not, however, synonymous with vigorous price competition.

For example, and at its most basic, if a monopolist or oligopolist offers a 10% discount on a price already inflated by market power, we wouldn’t say this is evidence of vigorous price competition.

In residential mortgage lending, “discounts” are a measure of a gap between the actual rate charged by the bank and a reference or headline rate that the bank decided for itself and that almost nobody ever pays.

This tells us very little about the vigour of price competition, particularly if the headline rate provides for a profit margin that is inflated well above what is needed to cover any notion of the risk-adjusted return on capital.

Moreover, the ability of the banks we investigated to selectively offer higher discounts to some types of customer, and maintain lower discounts to others, indicates an ability to refrain from vigorous price competition at least with respect to some types of customers.

Our observation that loyal customers pay higher mortgage interest rates, on average, than new borrowers indicates clearly that loyal customers are not seeing the benefits that vigorous price competition would be expected to provide.

The finding about a lack of vigorous price competition was the focus of most attention when we released our report last month.

Little wonder.

It goes to the heart of the problem in banking and confirms long-held consumer suspicions.

Internal documents reviewed by the ACCC reveal a lack of vigorous price competition between the five Inquiry Banks (ANZ, Commonwealth, NAB, Westpac and Macquarie), and the big four banks in particular. In fact, their behaviour more resembles synchronised swimming than it does vigorous competition.

What we found is that the pricing behaviour of the Inquiry Banks appears more consistent with ‘accommodating’ a shared interest in avoiding the disruption of mutually beneficial pricing outcomes, rather than vying for market share by offering the lowest interest rates.

This manifests in at least four ways:

  1. The big four banks largely focus on each other when they determine headline interest rates and discounts on variable rate residential mortgages. This means the actions and reactions of over 100 other residential mortgage lenders do not appear to have much bearing on interest rate decisions for the big four banks’ main brands. This is important as the big four represent approximately 80 per cent of all outstanding residential mortgages held by banks in Australia.
  2. The Inquiry Banks generally have not often sought to compete by offering the lowest headline variable interest rate to borrowers.
  3. The banks usually move their interest rates at the same time, and in response to RBA changes in the overnight cash rate.
  4. During late 2016 and early 2017, two of the big four banks (independently of each other) decided to take action to reduce discounting in the market. They each reduced their own discounts and sought to trigger reduced discounting by rivals, even though this was likely to be costly for them if other banks did not follow their lead. We observed that by early 2017 the two banks considered they had been successful in leading competitors to reduce discounts for a time.

These are the observed behaviours.

Then there are the internal communications.

In 2015, for example, we saw references to the need to avoid disrupting mutually beneficial pricing outcomes.

There were also references to “encouraging rational market conduct”, “maintaining orderly market conduct” and maintaining “industry conduct”.

There were also references to a desire to have interest rates that are “mid-ranking”, and to the need not to “lead the market down”.

Comments like these are at odds with banks’ assurances and the reasonable community expectations that competition in the sector is vigorous and effective.

2. Data as competition driver

From a competition perspective, it could be argued that ‘customer stickiness’ is an issue for the customer to resolve.

Fair point. Up to a point.

A study by one Inquiry Bank into customer refinancing requests found that where an existing borrower requests a discount, the Inquiry Bank only needs to come close to the discount requested in order to retain the borrower.

That Inquiry Bank observed in a presentation to its executives in the residential mortgage lending division in June 2015 that “where we allowed repricing to occur, customers are price inelastic when the discount offered is close to their requested discount”.

For this reason, residential mortgages and personal banking more generally make one of the strongest cases I have seen for data portability and data access by customers to overcome the inertia of changing lenders.

As an organisation, the ACCC is more than pleased with Treasury’s Report of the Review into Open Banking and its recommendations as it outlines a framework for a consumer data right.

As the Treasurer noted:

Granting third-party access to a customer’s data will allow rival providers to offer competitive deals, products that are tailored to individual needs, and enhanced services that simplify the choices customers face when accessing banking services.

It should simplify the process of switching between banks and help to overcome the ‘hassle factor’ that sees customers stay with their current bank even in the presence of more competitive deals elsewhere.12

At worst, the ‘hassle factor’ of comparing and switching should be a bug in the system; it shouldn’t be a feature which benefits an industry lacking in vigorous competition.

The Government has announced that the ACCC will be the lead regulator for the consumer data right, with strong support from the Office of the Australian Information Commissioner.

The consumer data right was, of course, the brain child of the Productivity Commission in a report to the Government last year.

The ACCC’s proposed roles include making rules to implement the specifics of the data right, and taking enforcement action to ensure that participants in the new framework meet their obligations.

We are undertaking preparatory work in anticipation of this new role, recognising that formal commencement will be determined once the government has finalised its response to the Open Banking report.

3. Stability versus competition

This is a topic we avoid, but it is one we must talk about.

In recent public statements, particularly in response to the recent Productivity Commission draft report on Competition in the Australian Financial System, senior bank representatives have suggested that prudential regulation and other supportive measures are vital to keep them strong.

They also argue, however, that they are commercial enterprises and as such, must be allowed to pursue an objective of maximising shareholder value.

I believe there is a tension in these two positions that needs to be examined further.

But beyond this tension, we must recognise that the poor performance and failures of banks worldwide, that have often prompted enhanced stability measures, were not caused by excessive competition. Quite the contrary.

Often they appear to have been caused by inappropriate behaviour and endemic short termism, possibly driven by a desire for huge bonuses.

The current Banking Royal Commission is also revealing further failures that cannot be blamed on strong competition.

On the contrary, if we continue to insulate our major banks from the consequences of their poor decisions, we risk stifling the cultural change many say is needed within our major banks to put the needs of their customers first.

There is a, perhaps old fashioned view, that facing strong competition forces firms to increase their focus on customer outcomes.

I think this holds for all sectors of economy, including the banking sector.

Vigorous competition is a powerful mechanism for driving improved efficiency, and also for driving improved price and service offerings to customers.

Culture change to deliver better outcomes for consumers will not occur because the community, regulators or perhaps even some bankers wish it to happen.

Competition is not, repeat not, welcomed by businesses. This is because it delivers better outcomes for consumers. This is exactly what seems to be needed in our banking system.

The ACCC is deeply involved in helping consumers find and achieve lower prices in areas of essential purchases, from electricity to petrol. But most consumers spend significantly more on various financial products, particularly servicing their home mortgage.

Financial stability will be helped by more competition. More importantly, so will consumers.

Conclusion

Ladies and gentlemen, the ACCC’s mandate is to promote competition and fair trading.

It is clear from our interim report into residential mortgage pricing that there are significant issues in the banking sector which raise concerns about competition in the sector as well as fair trading.

Soon after June 30 this year, the ACCC will be releasing its final report into residential mortgages. Our focus will then turn to how best to promote competition in the industry more generally and we will proactively identify issues to examine, particularly leveraging off the work of the Productivity Commission.

Mortgage Stress Up In March 2018

Digital Finance Analytics (DFA) has released the March 2018 mortgage stress and default analysis update.

Across Australia, more than 956,000 households are estimated to be now in mortgage stress (last month 924,500). This equates to 30.0% of households. In addition, more than 21,000 of these are in severe stress, no change from last month. We estimate that more than 55,000 households risk 30-day default in the next 12 months. We expect bank portfolio losses to be around 2.8 basis points, though with losses in WA are higher at 4.9 basis points.  Flat wages growth, rising living costs and higher real mortgage rates are all adding to the burden.

Martin North, Principal of Digital Finance Analytics said “we continue to see the number of households rising, and the quantum is now economically significant. Things will get more severe, especially as household debt continues to climb to new record levels. Mortgage lending is still growing at two to three times income. This is not sustainable and we are expecting lending growth to continue to moderate in the months ahead as underwriting standards are tightened and home prices fall further”. The latest household debt to income ratio is now at a record 188.6.[1]

Overall, risks in the system continue to rise, and while recent strengthening of lending standards will help protect new borrowers, there are many households currently holding loans which would not now be approved. The recent Royal Commission laid bare some of the industry practices which help to explain why stress is so high. This is a significant sleeping problem and the risks in the system remain higher than many recognise.

Our analysis uses the DFA core market model which combines information from our 52,000 household surveys, public data from the RBA, ABS and APRA; and private data from lenders and aggregators. The data is current to end March 2018. We analyse household cash flow based on real incomes, outgoings and mortgage repayments, rather than using an arbitrary 30% of income.

Households are defined as “stressed” when net income (or cash flow) does not cover ongoing costs. They may or may not have access to other available assets, and some have paid ahead, but households in mild stress have little leeway in their cash flows, whereas those in severe stress are unable to meet repayments from current income. In both cases, households manage this deficit by cutting back on spending, putting more on credit cards and seeking to refinance, restructure or sell their home.  Those in severe stress are more likely to be seeking hardship assistance and are often forced to sell.

The forces which are lifting mortgage stress levels remain largely the same. In cash flow terms, we see households having to cope with rising living costs – notably child care, school fees and fuel – whilst real incomes continue to fall and underemployment remains high. Households have larger mortgages, thanks to the strong rise in home prices, especially in the main eastern state centres, and now prices are slipping. While mortgage interest rates remain quite low for owner occupied borrowers, those with interest only loans or investment loans have seen significant rises.  We expect some upward pressure on real mortgage rates in coming months as international funding pressures mount, a potential for local rate rises and margin pressure on the banks thanks to a higher Bank Bill Swap Rate (BBSW).

Probability of default extends our mortgage stress analysis by overlaying economic indicators such as employment, future wage growth and cpi changes.  Our Core Market Model also examines the potential of portfolio risk of loss in basis point and value terms. Losses are likely to be higher among more affluent households, contrary to the popular belief that affluent households are well protected.

Stress by The Numbers.

Regional analysis shows that NSW has 261,159 households in stress (260,830 last month), VIC 258,303 (249,192 last month), QLD 176,154 (165,344 last month) and WA has 126,606 (130,068 last month). The probability of default over the next 12 months rose, with around 10,474 in WA, around 10,299 in QLD, 13,827 in VIC and 14,807 in NSW.

The largest financial losses relating to bank write-offs reside in NSW ($1.3 billion) from Owner Occupied borrowers) and VIC ($960 million) from Owner Occupied Borrowers, which equates to 2.09 and 2.76 basis points respectively. Losses are likely to be highest in WA at 4.9 basis points, which equates to $726 million from Owner Occupied borrowers.

[1] RBA E2 Household Finances – Selected Ratios December 2017 (Revised 3rd April 2018).

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Note that the detailed results from our surveys and analysis are made available to our paying clients.

Home Prices and Lending To Fall? Perhaps Hard!

The good people at UBS has published further analysis of the mortgage market, arguing that the Royal Commission outcomes are likely to drive a further material tightening in mortgage underwriting. As a result they think households “borrowing power” could drop by ~35%, mainly thanks to changes to analysis of expenses, as the HEM benchmark, so much critised in the Inquiry, is revised.

Their starting point assumes a family of four has living expenses equal to the HEM ‘Basic’ benchmark of $32,400 p.a. (ie less than the Old Age Pension). This is broadly consistent with the Major banks’ lending practices through 2017.

As a result, the borrowing limits provided by the banks’ home loan calculators fell by ~35% (Loan-to-Income ratio fell from ~5-6x to ~3-4x).

This leads to a reduction in housing credit and a further potential fall in home prices.

This plays out similarly to our own scenarios, which we discussed a couple of weeks back, exploring the outcomes from a mild correction, to a crash. A 20% reduction in borrowing power has already hit, by the way, and this before the Royal Commission revelations.

This will have a significant impact on the banks, but a broader hit to the economy also.

 

It’s time for third-party data brokers to emerge from the shadows

From The Conversation.

Facebook announced last week it would discontinue the partner programs that allow advertisers to use third-party data from companies such as Acxiom, Experian and Quantium to target users.

Graham Mudd, Facebook’s product marketing director, said in a statement:

We want to let advertisers know that we will be shutting down Partner Categories. This product enables third party data providers to offer their targeting directly on Facebook. While this is common industry practice, we believe this step, winding down over the next six months, will help improve people’s privacy on Facebook.

Few people seemed to notice, and that’s hardly surprising. These data brokers operate largely in the background.

The invisible industry worth billions

In 2014, one researcher described the entire industry as “largely invisible”. That’s no mean feat, given how much money is being made. Personal data has been dubbed the “new oil”, and data brokers are very efficient miners. In the 2018 fiscal year, Acxiom expects annual revenue of approximately US$945 million.

The data broker business model involves accumulating information about internet users (and non-users) and then selling it. As such, data brokers have highly detailed profiles on billions of individuals, comprising age, race, sex, weight, height, marital status, education level, politics, shopping habits, health issues, holiday plans, and more.

These profiles come not just from data you’ve shared, but from data shared by others, and from data that’s been inferred. In its 2014 report into the industry, the US Federal Trade Commission (FTC) showed how a single data broker had 3,000 “data segments” for nearly every US consumer.

Based on the interests inferred from this data, consumers are then placed in categories such as “dog owner” or “winter activity enthusiast”. However, some categories are potentially sensitive, including “expectant parent”, “diabetes interest” and “cholesterol focus”, or involve ethnicity, income and age. The FTC’s Jon Leibowitz described data brokers as the “unseen cyberazzi who collect information on all of us”.

In Australia, Facebook launched the Partner Categories program in 2015. Its aim was to “reach people based on what they do and buy offline”. This includes demographic and behavioural data, such as purchase history and home ownership status, which might come from public records, loyalty card programs or surveys. In other words, Partner Categories enables advertisers to use data brokers to reach specific audiences. This is particularly useful for companies that don’t have their own customer databases.

A growing concern

Third party access to personal data is causing increasing concern. This week, Grindr was shown to be revealing its users’ HIV status to third parties. Such news is unsettling, as if there are corporate eavesdroppers on even our most intimate online engagements.

The recent Cambridge Analytica furore stemmed from third parties. Indeed, apps created by third parties have proved particularly problematic for Facebook. From 2007 to 2014, Facebook encouraged external developers to create apps for users to add content, play games, share photos, and so on.

Facebook then gave the app developers wide-ranging access to user data, and to users’ friends’ data. The data shared might include details of schooling, favourite books and movies, or political and religious affiliations.

As one group of privacy researchers noted in 2011, this process, “which nearly invisibly shares not just a user’s, but a user’s friends’ information with third parties, clearly violates standard norms of information flow”.

With the Partner Categories program, the buying, selling and aggregation of user data may be largely hidden, but is it unethical? The fact that Facebook has moved to stop the arrangement suggests that it might be.

More transparency and more respect for users

To date, there has been insufficient transparency, insufficient fairness and insufficient respect for user consent. This applies to Facebook, but also to app developers, and to Acxiom, Experian, Quantium and other data brokers.

Users might have clicked “agree” to terms and conditions that contained a clause ostensibly authorising such sharing of data. However, it’s hard to construe this type of consent as morally justifying.

In Australia, new laws are needed. Data flows in complex and unpredictable ways online, and legislation ought to provide, under threat of significant penalties, that companies (and others) must abide by reasonable principles of fairness and transparency when they deal with personal information. Further, such legislation can help specify what sort of consent is required, and in which contexts. Currently, the Privacy Act doesn’t go far enough, and is too rarely invoked.

In its 2014 report, the US Federal Trade Commission called for laws that enabled consumers to learn about the existence and activities of data brokers. That should be a starting point for Australia too: consumers ought to have reasonable access to information held by these entities.

Time to regulate

Having resisted regulation since 2004, Mark Zuckerberg has finally conceded that Facebook should be regulated – and advocated for laws mandating transparency for online advertising.

Historically, Facebook has made a point of dedicating itself to openness, but Facebook itself has often operated with a distinct lack of openness and transparency. Data brokers have been even worse.

Facebook’s motto used to be “Move fast and break things”. Now Facebook, data brokers and other third parties need to work with lawmakers to move fast and fix things.

Author: Sacha Molitorisz, Postdoctoral Research Fellow, Centre for Media Transition, Faculty of Law, University of Technology Sydney

CBA sought to halve broker flows in 2016

From The Adviser.

Confidential internal documents from the Commonwealth Bank show that the bank sought to reduce the proportion of broker flows from around 45 per cent to “between 20 per cent and 30 per cent” in 2016.

According to an internal Reputational Impact Brief that was raised internally in October 2016, the Commonwealth Bank of Australia (CBA) was actively seeking to reduce the number of accredited mortgage brokers who were either inactive or providing very little business.

The document, which has been published by the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, outlines that although CBA had approximately 13,000 accredited brokers at the time, only 1,700 wrote the “overwhelming majority” of its loans.

According to the bank, the lower performing mortgage brokers had both lower conversion rates and higher arrears.

It therefore sought to remove approximately 3,198 mortgage brokers from its accreditation (but only ended up revoking the accreditation of 710 brokers on the basis of inactivity).

The brief reveals that this project was part of a “broader piece of work” that sought to effectively halve the number of brokers writing business to the big four bank.

While outlining that the mortgage broking channel represented 45 per cent of its home loan flows in June 2016, the bank said that it was “seeking to reframe the broker strategy with the aim [of] re-balancing flows from the channel to be between 20 per cent and 30 per cent”.

By March 2017, another Reputational Impact Brief outlined that the bank had approximately 12,000 accredited brokers — one thousand less than just six months before.

This second brief revealed that the decision to reduce broker flows was being driven by “pressure from equity analyst and shareholders to re-balance home loan flows in favour of [its] Proprietary Lenders, where [the bank] make[s] a higher margin”.

Around the same time, the bank reiterated this strategy when The Adviser asked CEO Ian Narev whether the bank was moving away from the broker channel.

This was again referenced in the bank’s most recent half-year results (which also showed that broker numbers still account for 40 per cent of new home loan originations), where it stated: “Our strategic focus on improving the home loan experience for customers continued to drive increased lending through the retail bank’s proprietary channels.”

During the hearings for the royal commission, CBA’s executive general manager for home buying, Dan Huggins, clarified: “I think there is a difference between the sales and the proportion. We certainly have a objective to increase the proportion of loans that are coming through the proprietary channels, but I still want to sustain a strong broking channel and, therefore, the sort of dollar sales… I’m comfortable with where they are now but I would like to move the proportions.

“So if I could hold the current level of sales and my broking channel and then grow… the proprietary channel, that would be – you know, that would be part of the objective.”

The bank did concede, however, that it would have been better if CBA had not disaccredited brokers purely based on volume, but instead required inactive brokers to undergo more training in order to ensure the quality of their work.

Indeed, at the end of 2017, the bank announced that it would be bringing in new benchmarks for mortgage brokers “designed to lift standards and ensure the bank is working with high-quality brokers who are meeting customers’ home lending needs”.

The accreditation crackdown meant that brokers would need to fulfil more requirements, including having at least two years’ experience and hold “at least” a Diploma of Finance and Mortgage Broking Management. The bank has also since amended the way it segments its accredited brokers, bringing in a new, two-tier system: elite broker and essential broker.

Narev’s “confidential” letter to Stephen Sedgwick

As well as reducing broker numbers, the royal commission has revealed that the bank’s CEO was supportive of changes to broker commission.

The royal commission has now released the full contents of a confidential letter written by outgoing CEO Ian Narev to Stephen Sedgwick AO, as the latter was undertaking his review into retail banking remuneration.

As covered in The Adviser’s sister publication, Mortgage Business, the CBA CEO told Mr Sedgwick that he believed broker commissions were conflicted and suggested extending FOFA to include the mortgage industry.

“As the Reviewer identifies, the use of upfront and trailing commissions linked to volume can potentially lead to poor customer outcomes,” Mr Narev wrote.

He added: “A move to a flat-fee payment would enable brokers to be agnostic towards loan size and leverage. However, consideration is needed on the payment amount, on how to link the fixed payment to an underlying security rather than a product (i.e. to avoid unintended incentives to split loans into multiple fixed/variable products), and on appropriate ‘clawback’ periods to dis-incentivise the churning of loans to maximise broker income.

“A move to flat-fee could also consider the removal of ‘trail commissions’ which can encourage brokers to suggest slower paydown strategies (e.g. interest-only) that maximise broker trail commission income.”

Mr Narev added that any changes to volume-based commissions would also “need to be made uniformly across the industry and across both proprietary and broker channels to eliminate bias and avoid significant market disruption”.

Mr Narev concluded: “We agree with the Reviewer’s observations that while brokers provide a service that many potential mortgagees value, the use of loan size linked with upfront and trailing commissions for third parties can potentially lead to poor customer outcomes.

“Mortgages also sit outside the financial advice framework, even though buying a home and taking out a mortgage is one of the most important financial decisions an Australian consumer will make. We would support elevated controls and measures on incentives related to mortgages that are consistent with their importance and the nature of the guidance that is provided. For example, the de-linking of incentives from the value of the loan across the industry, and the potential extension of regulations such as Future of Financial Advice (FOFA) to mortgages in retail banking.”

The Battle Of The Mobile Wallet

Juniper Research has just released a report “NFC Vs QR Codes ~ Which Wallet Wins?”

They estimate that, by 2019, nearly 2.1 billion consumers worldwide will use a mobile wallet to make a payment or send money, up by nearly 30% on the 1.6 billion recorded at the end of 2017.  The emergence of several high profile mobile payment services, including Apple Pay, Samsung Pay and Google Pay, has provided the sector with fresh impetus.

Furthermore, the accounts (or wallets) used to store consumer credentials are now have an integration of offline and online payments, enabling users to access them both for remote purchases and instore.

But there are significant regional variations in the mechanisms to make contactless mobile payments. In some countries mobile wallets win out, whereas elsewhere the NFC payment card wins. In addition Host card emulation (HCE) is on the rise, the software architecture that provides exact virtual representation of various electronic identity (access, transit and banking) cards using only software. Prior to the HCE architecture, NFC transactions were mainly carried out using secure elements, such as the chip on a card or other means.

HCE enables mobile applications running on supported operating systems to offer payment card and access card solutions independently of third parties while leveraging cryptographic processes traditionally used by hardware-based secure elements without the need for a physical secure element. This technology enables the merchants to offer payment cards solutions more easily through mobile closed-loop contactless payment solutions, offers real-time distribution of payment cards and, more tactically, allows for an easy deployment scenario that does not require changes to the software inside payment terminals.

When we compare the relative share of contactless cards and wallets in key markets outside the US (Europe, Canada and Australia), we see that, typically, cards account for well over 90% of transactions by value (rising to 98% in Spain and Canada). In the US, the positions are reversed, with mobile wallets accounting for 87% of the total.

While many markets focus on enabling instore mobile payments via NFC (which uses the same infrastructure and technology as contactless cards), a small number have embraced QR code-based instore payments. While precise mechanisms vary, typically the consumer is presented with a printed QR code, after which he/she launches the payment app and scans the code with the smartphone camera. This directs them to a payment page, where the transaction amount is entered and the transaction is made.

By far the most successful deployments of QR code-based payments have come in China, where these have already surpassed cash and cards in both instore transaction volume and values. Deployments elsewhere are sporadic, but the mechanism has been a mainstay of Scandinavian wallets for several years and is also gaining traction in India.

However, a study by researchers at the System Security Lab at the Chinese University of Hong Kong’s Department of Information found that it was possible to gain access to the phone’s camera to record an image of a QR code.

Furthermore, as QR codes can contain any kind of data (not just payment/transaction details), it is possibly to create codes containing links to malware or phishing sites.

As a result, the People’s Bank of China confirmed in December 2017 that it would be introducing plans to regulate payments by QR codes and other scannable codes. The new regulations, which come into effect in April 2018, will include a payments cap of RMB500 ($79) for basic payments, rising to RMB5,000 ($790) if additional security procedures are implemented, such as tokenisation, risk monitoring and anti-counterfeit measures.

Outside China, NFC has long been the proximity payment mechanism of choice by mobile wallet providers, although the initial model whereby the SE was based on the SIM has largely been jettisoned in favour of alternatives, where the SE is either embedded in the handset or else virtualised using HCE.

The evolution of offline payment in the US has lagged behind that in other developed markets, with EMV only mandated from October 2015. After that point, if merchants had not introduced processing systems to facilitate chip-based payments, then liability for fraud would pass from the card providers to those merchants.

Even with the onset of EMV, banks were reluctant to move to Chip & PIN, apparently concerned that their customers would be unable to remember a 4-digit PIN. Hence, US customers now use Chip & signature instead of the more secure alternative.

This means that Apple Pay and the wallets that followed in its wake, have the opportunity to establish themselves as the contactless mechanisms of choice.

The challenge facing Apple and its rivals is to ensure that the infrastructure is in place for consumers to make instore payments. According to Head of Apple Pay Jennifer Bailey, when Apple Pay first launched in September 2014, it was supported by just 3% of retailers, a figure that had risen only marginally by the end of that year. However, by the end of 2017, half of US retailers supported the mechanism, indicative of the progress that contactless has made in that market.

Nevertheless, although a majority of the remaining US retailers are now believed to own POS terminals capable of fulfilling contactless transactions, a significant number have not yet activated the technology. Furthermore, in some stores only a minority of terminals accept the technology: Juniper estimates that just under 30% of all POS terminals in the US were capable of processing contactless transactions by the end of 2017.

Purely from a payments and convenience perspective, it will be difficult for mobile wallet providers to gain market share from contactless cards. It is therefore incumbent upon them to deliver services through which the mobile wallet will become the default payment mechanism.

We would argue that there are at least 2 means by which this could potentially be achieved:

  • Offering an integrated wallet which can be used on both offline and online environments;
  • Offering services based around loyalty.

HCE threatens the central role of the network operator in NFC’s value chain, it strengthens that of the bank and makes handset-based contactless payment a more attractive proposition.

Banks have increasingly understood this. By the end of 2014, Juniper Research estimates that just 7 banks had introduced commercial services based on HCE. By mid January 2016, that number had increased to 55; by the end of 2017, Juniper Research estimates that well over 200 banks had introduced such services. Those launching in 2017 included Belfius (Belgium), Citi (US), Credit Agricole (France), Deutsche Bank (Germany), Rabobank (Netherlands) and SBI (India).

A number of banking collectives have also sought to implement HCE. In June 2016, the Danish banking collective, the BOKIS partnership, launched an HCE wallet utising a solution provided by Nordic digital payments specialist, Nets. The BOKIS partnership includes 62 banks that form the small to mid-sized banks segment of the Association of Local Banks, Savings Banks and Cooperative Banks in Denmark, together with 5 Danish regional banks: Jyske Bank, Sydbank, Spar Nord Bank, Arbejdernes Landsbank and Nykredit Bank. Meanwhile, In October 2016, 27 Spanish banks teamed up to launch a new mobile payment platform called Bizum whicih utilises HCE.

However, despite this plethora of bank launches, adoption has been relatively modest: many services have only a few tens of thousands of users, with none yet reporting that they have achieved more than a million. The scale of the challenge facing the banks is largely tied to that facing NFC in general: in Western Europe; banks’ own contactless services are up against both contactless cards and the OEM-Pays, making it extremely difficult to gain a foothold.

Wealthy landlords and more sharehousing: how the rental sector is changing

From The Conversation.

More people are becoming heavily indebted by buying rental properties and shared accommodation is flourishing, as third party tech platforms help people find a place without a real estate agent.

A new report from the Australian Housing and Urban Research Institute explains how the private rental market is changing over time for both landlords and tenants.

Over the 10 years to 2016, the number of renters grew 38% – twice the rate of household growth. More renters now are couples, or couples with children, so it seems the sector is shaking its image of unstable housing or perhaps these people are left with few other options.

Households by type, 2006 and 2016

Author provided (No reuse)

The report analyses data from the 2016 Census, the 2013-14 Survey of Income and Housing and the 2014 Household, Income and Labour Dynamics in Australia (HILDA) Survey. It also draws on interviews conducted with 42 people involved in all aspects of the private rental sector: financing, provision, access and management.

Rental property ownership also grew. We found the number of households with an interest in a rental property grew and the number that own multiple properties grew slightly as well.

But the typical landlord is still the conventional “mum and dad” investor. Two-thirds of rental investor households have two incomes, and 39% have children.

However they are also mostly high-income and high-wealth households: 60% are in both the highest income and highest wealth bracket. Interestingly, about one in eight landlords is themselves a private renter.

Housing finance ($A), 2000 – 2016

Author provided (No reuse)

The biggest change in ownership is in finances: owners of rental properties are relying more heavily on debt.

Financing rental properties

The people we interviewed highlighted the Australian Prudential Regulation Authorities’ (APRA) guidance to lenders on loan serviceability calculations as having the greatest impact on overall investment levels and investor decisions.

Adding to the complexity is the proliferation of intermediaries, such as mortgage brokers and wealth advisers. These advisers are telling borrowers what lenders and loan products to use to maximise their borrowing power and negotiate lender and regulator requirements.

Houses are the most commonly rented in Australia, but everywhere rental markets are moving away from this and towards dwellings like apartments.

There’s now more diversity in rental properties too. For example the building of high-rise student accommodation, “new generation boarding houses” and granny flats.

These allow landlords to house more people in the one building, increasing revenue and making management more efficient.

The informal sector of shared accommodation appears to be flourishing, like improvising shared rooms and lodging-style accommodation in apartments and houses.

Finding a rental

People have moved from finding rentals in real estate agents’ high street offices and onto online platforms. New third-parties like apps and other digital platforms offer non-cash alternative bond products, schedule property inspections, collect rents, and organise repairs.

Even though these technological innovations avoid agents, they have in fact increased their share of private rental sector management. Agents themselves are use these platforms to change their businesses, and the structure of their industry.

Our research found that revenue from an agency’s property management business (its “rent roll”) has become increasingly important. Some players in the industry are consolidating their businesses around it, to make higher profits from tech-enabled efficiencies.

However, the real estate business still depends on building personal relationships, particularly in high-end markets.

The new tech platforms of the private rental sector raise issues for tenants too, particularly in terms of the personal information they collect. For example, one of the online platform operators told us they looked forward to using applicants’ information to score or rank applicants. Another one of the new alternative bond providers uses automatic “trust scoring” of personal information to price its product.

These innovations may be convenient to use, and may give some tenants an advantage in accessing housing – but at the expense of others who are already disadvantaged.

Rental properties meeting demand?

If the private rental sector is going to meet the demand for settled housing, governments will have to intervene. This can’t be left to technological innovation, or higher income renters exercising their consumer power.

Federal or state governments could create public registers of landlords, or licensing requirements, to police landlords who are not “fit and proper” and exclude them from the sector.

There could also be stronger laws around tenancy conditions and protections for tenants against retaliatory action. The Poverty Inquiry in the 1970s set the basic model of our present laws and they haven’t changed much.

Tenants’ personal information also needs to be protected, to properly take account of the rise of the online application platforms; another is the informal sector, which is currently in a regulatory blindspot.

The popular emphasis on “mum and dad” investors diminishes expectations of landlords. Rental property investment should be regarded as a business that requires skill and effort. As for-profit providers of housing services, landlords should be held to standards that ensure the right to a dignified home life.

Author: Chris Martin, Research Fellow, City Housing, UNSW

Customer owned banking for the people

COBA today said Australians looking for banking that focuses on them as people should look no further than Customer Owned Banking.

You might like to watch my recent discussions at their forum in Sydney.

Commenting on the Greens calling for a bank owned by the Government and RBA run, COBA CEO Michael Lawrence said:

“If Australians want banking that’s truly focused on people, that model has been operating in Australia for more than 70 years.

“More than 70 customer-owned banks, credit unions and building societies across Australia put their customers as their number one priority.

“The customer owned banking sector is profitable, has more than $111 billion in assets and a strong presence across Australia.

“We’re focused on delivering for the 4 million Australians and local communities we already serve and expanding beyond that.

“Customer owned banking has featured in the considerations of the Productivity Commission (PC) and a range of pro-competition announcements by the Federal Government.

“It’s positive that there are ideas to make the banking market more competitive.

“The current PC Inquiry into competition in financial services is an important investigation into the steps that need to be taken to spark better outcomes for consumers.

“Our submission in response to the PC Draft Report outlines some of the steps COBA would like to see taken.

“We look forward to seeing the detail of the Greens’ proposal and consulting our members about the proposal.”

Unit Approvals Fall In February

The latest ABS data on residential building approvals were released today.

The number of dwellings approved in Australia fell for the fifth straight month in February 2018 in trend terms with a 0.1 per cent decline.

Approvals for private sector houses have remained stable at around 10,000 for a number of months. But unit approvals have fallen for five months.

Overall, building activity continues to slow from its record high in 2016. And the sizeable fall in the number of apartments and high density dwellings being approved comes at a time when a near record volume are currently under construction. If you assume 18-24 months between approval and completion, then we still have 150,000 or more units, mainly in the eastern urban centres to come on stream. More downward pressure on home prices.

This helps to explain the rise in 100% loans on offer via some developers plus additional incentives to try to shift already built, or under construction property.

Here is the data displayed in original terms. Whilst house approvals remains relatively stable, unit approvals are more volatile. This is explained by the changing demand profile as overseas investors and local investment property purchasers retreat. As we discussed recently, this is thanks to tighter lending standards making mortgages more difficult to come by, lower capital growth making investment property less attractive, and stronger controls on overseas investors, both in terms of moving capital to purchase, and local regulations and tighter supervision.

We can then look across the individual states, as there are significant variations. Among the states and territories, the biggest trend decrease in dwelling approvals in February was the Australian Capital Territory down 18.7 per cent,

followed by the Northern Territory (down 7.2 per cent),

Western Australia (down 4.4 per cent),

Tasmania (down 3.4 per cent)

and South Australia (down 1.2 per cent).

There were small increases in trend terms in New South Wales (1.0 per cent),

Queensland (0.9 per cent)

and Victoria (0.1 per cent).

Approvals for private sector houses rose 0.2 per cent in trend terms in February. Private sector house approvals rose in Victoria (1.1 per cent) and New South Wales (0.8 per cent), but fell in Queensland (1.1 per cent), South Australia (1.1 per cent) and Western Australia (0.5 per cent).

The value of total building approved fell 1.1 per cent in February, in trend terms, and has fallen for five months. The value of residential building fell 0.1 per cent while non-residential building fell 2.9 per cent.

Retail Turnover Lifts A Tad

The ABS release their Retail Turnover series for February 2018.

As normal we look at the trend series which smooths out the bumps.

The trend estimate rose 0.4% in February 2018. This follows a rise of 0.3% in January 2018 and a rise of 0.3% in December 2017.

In trend terms, Australian turnover rose 2.7% in February 2018 compared with February 2017. This is faster than wages growth or inflation.

The following industries rose in trend terms in February 2018: Food retailing (0.3%), Household goods retailing (0.6%), Other retailing (0.4%), Cafes, restaurants and takeaway food services (0.4%), and Clothing, footwear and personal accessory retailing (0.4%). Department stores (-0.2%) fell in trend terms in February 2018.

All the states and territories rose in trend terms in February 2018: Victoria (0.6%), New South Wales (0.3%), Queensland (0.3%), South Australia (0.3%), Western Australia (0.1%), Tasmania (0.2%), the Australian Capital Territory (0.1%), and the Northern Territory (0.2%).

The trends by state over time highlight the relative strength of Victoria, compared with the national average and several other states who are performing much less well, especially those in the mining heavy states.

Given the state of the housing market, we wonder if the slight improvement is sustainable, we  will see. We do know that households are raiding their savings to support their spending habits. This can only continue until savings are depleted as the  savings ratio falls further.