Home Lending Momentum Increases In October

The latest monthly banking statisticsdata from APRA for October 2016 shows the total home lending portfolios held by the ADI’s grew from $1.49 trillion to 1.51 trillion, up 0.62%. Within that, owner occupied loans rose by 0.69% to $970 billion (up $6.6bn) and investment loans rose 0.5% (up $2.6 billion). 35.46% of the portfolio is for investment lending purposes.  Momentum is increasing (and matches the high rate of auction clearances we have seen recently).

apra-oct-2016-all-moveLooking at the individual banks, in value terms, CBA lifted their investment portfolio by $975m, compared with WBC $892m. Bendigo Bank shows an uplift of $1.1bn, thanks to their portfolio acquisition of $1.3bn of loans from WA. Suncorp, Members Equity and Citigroup saw their portfolios fall in value. Macquarie saw a small fall in their investment lending portfolio.

Collectively, the big four grew their investment portfolio by $2.6 billion, and their owner occupied portfolio by $4.5 billion.

apra-oct-2016-port-moveWestpac and CBA remain the largest home lenders.

apra-oct-2016-mix-moveLooking at the APRA 10% speed limit, based on an average annualised 3m growth rate, the market shows a 3.4% growth in investment lending, with CBA, WBC and NAB all growing faster than system, but below the 10% speed limit.

apra-oct-2016-yoy-3mThis data would indicate that i) further rate cuts from the RBA are off the agenda and ii) they should consider further tightening, using either macroprudential controls, or a rate rise.

We will get the RBA aggregates later today, and we will be able to assess the growth in the non-bank sector, as well as look at the changed classification which took place in the month between investment and owner occupied loans.

Remember that default rates on mortgages are already rising, especially in the mining heavy states, although overall provisions are low at the moment. The banks remain highly leveraged to the housing sector.

US Mortgage Rates Sharply Higher

Mortgage rates in the US have risen by more than 50 basis points since the election in November.

us-mortgage-ratesA 30 year fixed is now 4.19%, compared with 3.59% immediately prior to the poll. The dark line shows the Freddie Mac 30 Year rate, the lighter line MND 30 Year fixed.

Further confirmation of a significant reversal in mortgage rates, thanks to the changed yield curve.  Such rises will create pressure on households whose income has been static for years. Because most households are on a long-term fix, however, they will have some protection, but any new loan will be set at the higher, less affordable rate.

Of course in Australia, most households are on a variable rate – so any upward movement in rates will translate to immediate pain.

Broker channel sees significant rise in fraud

From Australian Broker.

The significant growth in fraud found in the broker channel is an ongoing concern, Veda’s 2016 Cybercrime and Fraud Report has revealed.

broker-shares-dfa-sept-2016

The report showed broker channel fraud makes up 15% of all credit application fraud and has risen by 25% in the last half year period (H2 FY2016).

Speaking to Australian Broker, Veda general manager, fraud and identity solutions Imelda Newton said it is in brokers’ best interest to take measures to detect fraud.

“A lot of the activity we see through that broker channel is where people falsify their personal details to be able to secure the finance so things like altering payslips, bank statements, tax assessments,” said Newton.

The research found the falsifying of personal details has risen 27% per cent year-on-year and more than a quarter (27%) of Australians have been a victim of identity theft, which has risen 80% in the 12 months to June 2016. 56.94% of all credit application fraud  comes from an online channel.

“Even though they might not suffer the ultimate financial loss – the lender will – the thing for the broker is their reputation,” Newton told Australian Broker.

“Being associated with some fraud that’s happened is not a good thing for that sector and for those individuals whose reputation can be everything in terms of the credibility of their business.”

The data also found fraud occurrence has increased among bank branches, rising 13% on 2016, with branch channel fraud making up 12.78% of all credit application fraud.

“Everyone is getting better at detecting the fraud – there’s a lot more quick investigation and detection going on, so that’s how we’re finding out more about these cases that are happening in the branches.”

She said the rise in fraud in the branch channel may stem from banks and other lenders using manual methods of identity verification.

“One of the downsides to these manual processes is the subjectivity of manual identity verifications. By using electronic verification the subjectivity is removed and a common standard set of rules can be applied.”

Newton said from the latest insights, growth in fraud shows no signs of slowing down this year.

“This trend is likely to continue into the future, as individuals and businesses become more reliant on the internet for their banking, shopping and other financial interactions.”

NAB rolls out 1.5 day loan processing

NAB has announced faster conditional home loan approval processes. The new feature is understood to be the most comprehensive online conditional home loan approval currently available in Australia. It takes, on average, around 15 minutes to complete, with some customer information pre-populated into the form, saving customers time and effort.

As part of the application, customers are asked about their financial position, including their employment, income, assets, and expenses. As with all conditional home loan approvals, NAB will need to verify the customer’s financial position and the security being purchased, and check that the loan is suitable for the customer. Eligibility criteria for using the application also apply.

From Australian Broker.

The National Australia Bank has recently conducted a technology overhaul which it says will dramatically reduce loan processing times and turn a greater number of customer enquiries into sales, reports The Age.

nab-pic

The platform, which has been rolled out in NSW and Victoria in recent months, is used by staff to open new bank accounts, loans and credit cards.

Bob Melrose, executive general manager of retail, told The Age that once the system was installed in NAB’s South Australian branches last year, the number of enquiries that resulted in the customer taking out a loan increased by 20%.

“I always think about that as more satisfied customers, and obviously there’s some flow-on benefits for us in terms of revenue as well,” he said.

While the total number of enquiries that transformed into sales was previously less than half in South Australia, this was no longer the case, Melrose said. He expected a similar increase in NSW, Victoria and Queensland.

“We’re starting to see encouraging signs in those states at the moment, and we will continue to see those benefits grow over this year and next year as well. There can only be upside now for each of the states.”

The changes will lead to fewer staff processing loans, Melrose said. The time taken to approve a loan is a key factor in whether customers shop around for a better deal, he added.

“The worst thing that can happen is if the customer is waiting too long, they get itchy feet and they start to pick up the phone and talk to others.”

While NAB previously took two or three weeks to approve a home loan, the new system meant that more than a quarter of the bank’s home loans were now approved within one and a half days.

“The new platform has digitalised the application experience for our customers and bankers, including a faster time to ‘yes’ and less manual processing for bankers,” a NAB spokesperson told Australian Broker.

“Customers are experiencing a simplified single application process for multiple products and online upload and acceptance of loan documents and a digital 100 point ID check. NAB customers also now receive regular updates on application status via internet banking and SMS.”

Here is NAB’s announcement.

NAB has today officially launched a new, simpler, easier, more convenient way for customers to gain conditional approval for a home loan.

NAB goAHEAD enables NAB customers to apply for conditional approval for a new home loan online 24/7, and receive an instant response.

“We’re saving our customers time and stress, and helping them make an offer on a property with confidence,” NAB General Manager of Home Lending, Meg Bonighton, said.

The new feature is understood to be the most comprehensive online conditional home loan approval currently available in Australia. It takes, on average, around 15 minutes to complete, with some customer information pre-populated into the form, saving customers time and effort.

“Until now, Australians have only been able to receive a rough guide on what they can borrow via online forms. What we’re giving customers through NAB goAHEAD is true conditional approval – just like they would receive if they spoke directly with a NAB banker,” Ms Bonighton said.

“With NAB goAHEAD, customers can complete the application, receive conditional approval, and make an offer on a property the very same day with confidence that they’re backed by NAB.”

As part of the application, customers are asked about their financial position, including their employment, income, assets, and expenses. As with all conditional home loan approvals, NAB will need to verify the customer’s financial position and the security being purchased, and check that the loan is suitable for the customer. Eligibility criteria for using the application also apply.

NAB goAHEAD was developed by NAB’s innovation hub, NAB Labs, which focuses on creative ways to design new products and services for customers.

“NAB wants to create a seamless online experience for our customers, and helping them to conveniently apply for a home loan anywhere and anytime, is key to this,” Ms Bonighton said.

“We’ve also built live chat functionality into NAB goAHEAD so that we can support customers through this process if they need any assistance.”
NAB goAHEAD is enabled through NAB Internet Banking and NAB’s Personal Banking Origination Platform. The new platform was rolled out across the organisation this year to better integrate systems and information so that customers receive the same experience and advice about products and services whether they call NAB, visit a NAB branch, or visit NAB’s website.

“Customers who complete this application online will be able to continue their conversation seamlessly with a NAB banker in a branch or in our contact centre,” Ms Bonighton said.

NAB’s Personal Banking Origination Platform also allows customers to upload, receive, and accept loan documents online, and receive Internet Banking and SMS updates on their application progress.
“This is a significant step forward in our move to fully digitise the home lending experience so that customers can more conveniently, simply and easily make their home ownership dreams a reality,” Ms Bonighton said.

The Interest-Only Loan Debt Trap

Today we discuss some specific and concerning research we have completed on interest-only loans.  Less than half of current borrowers have complete plans as to how to repay the principle amount.

Interest-only loans may seem like a convenient way to reduce monthly repayments, (and keep the interest charges as high as possible as a tax hedge), but at some time the chickens have to come home to roost, and the capital amount will need to be repaid.

Many loans are set on an interest-only basis for a set 5 year term, at which point the lender is required to reassess the loan and to determine whether it should be rolled on the same basis. Indeed the recent APRA guidelines contained some explicit guidance:

For interest-only loans, APRA expects ADIs to assess the ability of the borrower to meet future repayments on a principal and interest basis for the specific term over which the principal and interest repayments apply, excluding the interest-only period

This is important because the number of interest-only loans is rising again. Here is APRA data showing that about one quarter of all loans on the books of the banks are interest-only, and that recently, after a fall, the number of new interest-only loans is on the rise – around 35% – from a peak of 40% in mid 2015. There is a strong correlation between interest-only and investment mortgages, so they tend to grow together. Worth reading the recent ASIC commentary on broker originated interest-only loans.

interest-only-apraBut what is happening at the coal face? To find out we included some specific questions in our household survey, and today we present the results.

We were surprised to find that around 83% of existing interest-only loan holders expect to roll their loan to another interest-only loan, and to keep doing so.  More concerning, only around 44% of borrowing households had an explicit discussion with the lender (or broker) at their last loan draw down or reset about how they plan to repay the capital amount outstanding.  Some of these loans are a few years old.

interest-only-surveyAround 57% said they knew the capital would have to be repaid (we assume the rest were just expecting to roll the loan again) and 26% had no firm plans as to how to repay whereas 39% had an explicit plan to repay.

Many were expecting to close the loan out from the sale of the property (thanks to capital appreciation) at some point, from the sale of another property, or from another source, including an inheritance.

Thus we conclude there is a potential trap waiting for those with interest-only loans. They need a clear plan to repay, at some point. It also highlights that the quality of the conversation between borrower and lender is not up to scratch.

We think some borrowers on an interest-only loan may get a rude shock, when next they try to roll their interest-only loan. If they do not have a clear repayment plan, they may not get a new loan. There is a debt trap laid for the unwary and the APRA guidelines have made this more likely.

Next time we will delve further into the interest only mortgage landscape, because we found the policies of the lenders varied considerably.

 

Investment Lending On Again

The latest data from APRA for September shows the portfolios of individual banks in Australia as well as details of total loan exposures.

Total lending for housing went to $1.5 trillion, up 7 billion in the month. Of that $5.2 billion was for owner occupation and $1.8 billion for investment loans. As a result 35.5% of loans are for investment purposes.

Looking at the portfolio data, we see that Westpac and CBA had the bulk of the growth, across both owner occupied and investment loans. NAB grew in both categories, whereas ANZ dialed back their investment lending (perhaps from reclassification?). It is worth noting that ING is also growing their owner occupied portfolio and Members Equity Bank grew strongly.  Pressure on some of the regional banks continues.

apra-adi-sept-portfolioThis has done little to change the relative market shares, with CBA in first place on owner occupied loans, and Westpac first on investment lending, but with CBA now nipping at their heals.

apra-adi-sept-sharesFinally, here is the relative investment lending portfolio growth. On a 3 month annualised basis, the total market grew 2.8%, but now three of the major players are operating above system growth, though still below the 10% speed limit imposed by APRA last year.

apra-adi-sept-trends There has clearly been a focus on energising investment lending, as we predicted in our Property Imperative report.  We expect momentum to continue for some time to come, hampering the RBA’s ability to cut the cash rate if they needed to.  We still believe further macroprudential measures are needed.

Home Lending Remains Strong In September To $1.6 Trillion

The RBA released their credit aggregates for September today.  Overall, lending for housing rose 0.5% to reach another record $1.6 trillion, up $8.6 billion. Within that, owner occupied lending rose 0.6%, up $6.1 billion and investment lending rose 0.4% or $2.5 billion. This is a slightly lower growth rate than a year back (7.5%), but is still strong, well above inflation and wage growth. This means household debts will continue to rise.

The monthly growth rate for investment mortgages shows a sharp move up, and from March 2016, as banks started to focus on lending to this sector. Lending for owner occupation growth rates fell a little, having peaked at the end of last year.

rba-aggregates-sep-2016-monthly-growthThe annualised analysis shows a tilt down, but if recent trends continue, this will reverse. This is hardly a good indicator that housing lending is under control. Indeed, we saw another high auction clearance rate at the weekend.

rba-aggregates-sep-2016-annual-growthIt is worth noting that there was $1bn of mortgages being switched between owner occupied and investment categories. The proportion of loans for investment purposes is still stitting at 35%. In addition, the proportion of lending to business continues to fall,  rising just 0.3% this month, or $2.9 bn. Lending for personal finance fell again, down 0.1%.

rba-aggregates-sep-2016The RBA said:

Following the introduction of an interest rate differential between housing loans to investors and owner-occupiers in mid-2015, a number of borrowers have changed the purpose of their existing loan; the net value of switching of loan purpose from investor to owner-occupier is estimated to have been $45 billion over the period of July 2015 to September 2016, of which $1.0 billion occurred in September 2016. These changes are reflected in the level of owner-occupier and investor credit outstanding. However, growth rates for these series have been adjusted to remove the effect of loan purpose changes.

Note we have used the seasonally adjusted data in our analysis. You can read our analysis of the companion  APRA monthly banking stats here.

Asian home buyers less likely to default on their mortgage: study

From The Conversation.

People from cultural backgrounds where getting financial assistance from families is the norm are less likely to default on their mortgages, new research shows. This includes those from South East Asian countries.

We also found in societies where the culture is to save more and for people to control their desires and instincts, the default on mortgages is lower. The findings are true both in relatively stable economic periods (2010-2013) and during a period of financial crisis (2008-2009).

In analysing the factors behind mortgage delinquencies, we used data on default rates from 42 developed and developing countries. These countries represent about 90% of the world’s gross national income and the world’s outstanding balance of housing mortgages in 2013. The rate of people who defaulted on their mortgage varied from 0.05% in Hong Kong to 17.05% in Greece.

Australia has a low default rate on mortgage, thanks to a strong level of national income, stable growth of the property market and a low unemployment rate. But it ranks high in all cultural dimensions that potentially lead to high default rate, this is accentuated during times of widespread economic hardship. So policymakers should be mindful of unfavourable economic conditions that may trigger default on mortgages.

There are a number of explanations for our findings. Individuals who have a tendency to enhance or protect their self esteem, by taking credit for success and denying responsibility for failure, may overestimate their abilities make enough money to meet their long term financial obligations. They also have relatively weaker self-monitoring skills and may not budget well.

Also, in societies where people are expected to be independent and only take care of their own interests, the rate of default on mortgage is higher. A lack of access to support from extended families and groups may make it difficult to pay back their mortgages during the period of financial hardship.

We found that borrowers in countries exhibiting higher degrees of pragmatism (e.g. having a long-term view to life) are less likely to default on their mortgages. People in these countries have a higher tendency to save. These people are also probably less likely to undertake risky mortgages and therefore default less on their mortgages.

In societies with a strong emphasis on enjoying life there was a higher rate of defaults. These people are more likely to follow their impulses and desires and so might not allocate their financial resources efficiently. They may spend more money than they can afford on leisure activities and have less savings to service their mortgages.

Not surprisingly we found countries with higher levels of household disposable income, lower unemployment rates and higher growth in house prices, would have lower default rates on mortgage. However, national debt rules, regulations and chronic and prolonged illness, aren’t significantly associated with defaults on mortgages in our sample countries.

Housing mortgages account for about 75% and 50% of total consumer lending in the developed and developing economies, respectively. Our findings are of particular importance for multinational financial institutions because they hold mortgage loans as a large portion of their assets and therefore higher default rates may significantly lower their market values.

Our results show that lenders should take into account the cultural backgrounds of borrowers when determining how likely it is that they will default. This is in addition to common economic factors, such as income, unemployment, and house prices, socio-demographic factors like divorce and race and health characteristics of borrowers.

For example, multinational financial institutions could promote their mortgage products more in societies where people receive support from their relatives or members of groups. They could also focus on countries where people have a higher propensity to save for the future and are less interested in leisure activities. This could save these institutions a lot in terms of risk, but would also be much better for their customers.

Authors: Reza Tajaddini, Lecturer in Finance, Swinburne University of Technology; Hassan F. Gholipour, Lecturer in Economics, Swinburne University of Technology

APRA Issues Revised Residential Mortgage Lending Guidelines

APRA has issued new guidance for residential mortgage lending and tabled proposed changes to the bank mortgage reporting framework.  Actually this does not seem to move the risk dial very far, but makes earlier guidance more specific and tidies up what were previously ad hoc reporting requests.

risk-pic-2APRA has issued new draft guidelines for Residential Mortgage Lending, and is inviting responses by 19th December. These include revisions to Prudential Practice Guide APG 223 Residential mortgage lending to incorporate measures either announced by APRA in December 2014 or communicated to authorised deposit-taking institutions (ADIs) since that time. APRA expects to finalise the revised guidance in the first quarter of 2017.

They include more specific guidance on risk culture, compliance, affordability buffers, interest only loans and loans to SMSF.

Here are the main changes proposed.

“Failure to meet responsible lending conduct obligations, such as the requirement to make reasonable inquiries about the borrower’s requirements and objectives, or failure to document these enquiries, can expose an ADI to potentially significant risks. A prudent ADI would conduct a periodic assessment of compliance with responsible lending conduct obligations to ensure it does not expose itself to significant financial loss”.

“An ADI’s serviceability tests are used to determine whether the borrower can afford the ongoing servicing and repayment costs of the loan for which they have applied”.

“APRA expects that any material changes to an ADI’s serviceability policy would be analysed and the potential impact on the risk profile of new loans written would be reported to appropriate risk governance forums. Reference to competitors’ policies as the primary justification for policy changes would be seen by APRA as indicative of weak risk governance”.

“ADIs generally use some form of net income surplus (NIS) model to make an assessment as to whether the borrower can service a particular loan, based on the nature of the borrower’s income and expenses”

“Good practice would ensure that the borrower retains a reasonable income buffer above expenses to account for unexpected changes in income or expenses as well as for savings purposes. It would be prudent for ADIs to monitor the level of, and trends for, lending to borrowers with minimal income buffers. High or increasing levels of marginal borrowers may indicate elevated serviceability risk”.

“A prudent ADI would include various buffers and adjustments in its serviceability assessment model to reflect potential increases in mortgage interest rates, increases in a borrower’s living expenses and decreases in the borrower’s income, particularly for less stable income sources”

“Good practice would apply a buffer over the loan’s interest rate to assess the serviceability of the borrower (interest rate buffer). This approach would seek to ensure that potential increases in interest rates do not adversely impact on a borrower’s capacity to repay a loan. The buffer would reflect the potential for interest rates to change over several years. APRA expects that ADI serviceability policies should incorporate an interest rate buffer of at least two percentage points. A prudent ADI would use a buffer comfortably above this”.

“In addition, a prudent ADI would use the interest rate buffer in conjunction with an interest rate floor, to ensure that the interest rate buffer used is adequate when the ADI is operating in a low interest rate environment. Prudent serviceability policies should incorporate a minimum floor assessment interest rate of at least seven per cent. Again, a prudent ADI would implement a minimum floor rate comfortably above this”.

“APRA expects ADIs to fully apply interest rate buffers and floor rates to both a borrower’s new and existing debt commitments. APRA expects ADIs to make sufficient enquiries on existing debt commitments, including consideration of the current interest rate, remaining term, and outstanding balance and amount available for redraw of the existing loan facility, as well as any evidence of delinquency. ADIs using a proxy to estimate the application of interest rate buffers and floor rates to the servicing cost of existing debt commitments would, to be prudent, ensure that such a proxy is sufficiently conservative in a range of situations, updating the methodology to reflect prevailing interest rates”.

“APRA also expects ADIs to use a suitably prudent period for assessing the repayment of outstanding credit card or other revolving personal debt when calculating a borrower’s expenses”.

“For interest-only loans, APRA expects ADIs to assess the ability of the borrower to meet future repayments on a principal and interest basis for the specific term over which the principal and interest repayments apply, excluding the interest-only period”.

“When assessing a borrower’s income, a prudent ADI would discount or disregard temporarily high or uncertain income. Similarly, it would apply appropriate adjustments when assessing seasonal or variable income sources. For example, significant discounts are generally applied to reported bonuses, overtime, rental income on investment properties, other types of investment income and variable commissions; in some cases, they may be applied to child support or other social security payments, pensions and superannuation income. Prudent practice is to apply discounts of at least 20 per cent on most types of non-salary income; in some cases, a higher discount would be appropriate. In some circumstances, an ADI may choose to use the lowest documented value of such income over the last several years, or apply a 20 per cent discount to the average amount received over a similar period”.

“In the case of investment property, industry practice is to include expected rent on a residential property as part of a borrower’s income when making a loan origination decision. However, it would be prudent to make allowances to reflect periods of non-occupancy and other costs. ADIs would normally place less reliance on third party estimates of future rental income than on actual rental receipts from a property. In APRA’s view, prudent serviceability policies incorporate a minimum haircut of 20 per cent on expected rental income, with larger haircuts appropriate for properties where there is a higher risk of non-occupancy or where fees and expenses are higher (e.g. some strata requirements). Good practice would be for an ADI to place no reliance on a borrower’s potential ability to access future tax benefits from operating a rental property at a loss. Where an ADI chooses to include such a tax benefit, it would be prudent to assess it at the current interest rate rather than one with a buffer applied”.

“A borrower’s living expenses are a key component of a serviceability assessment. Such expenses materially affect the ability of a residential mortgage borrower to meet payments due on a loan. ADIs typically use the Household Expenditure Measure (HEM) or the Henderson Poverty Index (HPI) in loan calculators to estimate a borrower’s living expenses. Although these indices are extensively used, they might not always be an appropriate proxy of a borrower’s actual living expenses. Reliance solely on these indices generally would therefore not meet APRA’s requirements for sound risk management. APRA therefore expects ADIs to use the greater of a borrower’s declared living expenses or an appropriately scaled version of the HEM or HPI indices. That is, if the HEM or HPI is used, a prudent ADI would apply a margin linked to the borrower’s income to the relevant index. In addition, an ADI would update these indices in loan calculators on a frequent basis, or at least in line with published updates of these indices (typically quarterly). Prudent practice is to include a reasonable estimate of housing costs even if a borrower who intends to rely on rental property income to service the loan does not currently report any personal housing expenses (for example, due to living arrangements with friends or relatives)”.

“An override occurs when a residential mortgage loan is approved outside an ADI’s loan serviceability criteria or other lending policy parameters or guidelines. Overrides are occasionally needed to deal with exceptional or complex loan applications. However, a prudent ADI’s risk limits would appropriately reflect the maximum level of allowable overrides and be supported by a robust monitoring framework that tracks overrides against risk tolerances. It is also good practice to implement limits or triggers to manage specific types of overrides, such as loan serviceability overrides. APRA expects that where overrides breach the risk limits, appropriate action would be taken by senior management to investigate and address such excesses”.

“There are varying industry practices with respect to defining, approving, reporting and monitoring overrides. APRA expects an ADI to have a framework that clearly defines overrides. In doing so, it is important that any loan approved outside an ADI’s serviceability criteria parameters should be captured and reported as an override. This includes loans where the borrower is assessed to have a net income surplus of less than $0 (even if temporary) or where exceptions to minimum serviceability requirements have been granted, such as waivers on income verification. ADIs may have their own definitions that include other types of loans (such as those outside LVR limits) as overrides for internal risk monitoring purposes”.

“Borrowers may have legitimate reasons to prefer interest-only loans in some circumstances, such as for repayment flexibility or tax reasons. However, interest-only loans may carry higher credit risk in some cases, and may not be appropriate for all borrowers. This should need to be reflected in the ADI’s risk management framework, including its risk appetite statement, and also in the ADI’s responsible lending compliance program. APRA expects that an ADI would only approve interest-only loans for owner-occupiers where there is a sound and documented economic basis for such an arrangement and not based on inability of a borrower to service a loan on a principal and interest basis. APRA expects interest-only periods offered on residential mortgage loans to be of limited duration, particularly for owner-occupiers. As noted above, a prudent serviceability assessment would incorporate the borrower’s ability to repay principal and interest over the actual repayment period”.

“Some ADIs provide loans to property held in SMSFs. The nature of loans to SMSFs gives rise to unique operational, legal and reputational risks that differ from those of a traditional mortgage loan. Legal recourse in the event of default may differ from a standard mortgage, even with guarantees in place from other parties. Customer objectives and suitability may be more difficult to determine. In performing a serviceability assessment, ADIs would need to consider what regular income, subject to haircuts as discussed above, is available to service the loan and what expenses should be reflected in addition to the loan servicing. APRA expects that a prudent ADI would identify the additional risks relevant to this type of lending and implement loan application assessment processes and criteria that adequately reflect these risks. APRA also expects that a decision to undertake lending to SMSFs would be approved by the ADI at an appropriate governance forum and explicitly incorporated into the ADI’s policy framework”.

APRA has also released for consultation with ADIs proposed new reporting requirements for residential mortgage lending data. APRA expects to finalise these revised reporting requirements in the first half of 2017 with reporting to commence from the December 2017 quarter.

To better enable APRA’s supervisory monitoring and oversight of residential mortgage lending, and reduce the reliance on ad hoc information requests, APRA proposes to introduce a new reporting standard under the FSCOD Act, Reporting Standard ARS 223.0 Residential Mortgage Lending (ARS 223), and a new form, Reporting Form ARF 223.0 Residential Mortgage Lending (ARF 223.0).

These changes will enable APRA to maintain its supervisory intensity of residential mortgage lending and address emerging risks, while removing some unnecessary reporting burden on ADIs.

All locally incorporated ADIs will be subject to ARS 223.0 and required to submit ARF 223.0, 28 calendar days after the end of each calendar quarter. While smaller ADIs are currently not required to submit ARF 320.8, residential mortgage portfolios typically make up the majority of their balance sheet. Comprehensive supervisory monitoring of the credit risk of these ADIs is therefore dependent on obtaining information about their residential mortgage lending. APRA expects that much of this information will already be available by ADIs for their own internal monitoring purposes.

ARF 223.0 will collect information on both the portfolio stock and the new lending activity each quarter. ADIs with a Level 2 group will need to complete ARF 223.0 on a Level 2 basis, and other ADIs on a Level 1 basis.
Depending on their level of residential mortgage lending activity in Australia, branches of foreign banks may also be required to submit ARF 223.0 each quarter, as directed by APRA.

The proposed reporting standard, form and reporting instructions are available on the APRA website.

2.1 Details of outstanding residential mortgage loans
In order to accurately assess the risk profile of the residential mortgage loan portfolio of an ADI or the industry as a whole, APRA needs to have relatively detailed information on residential mortgage loan portfolios.

ADIs currently report outstanding loan balances to households and some loan characteristics on ARF 320.8, split by purpose of the loan. ADIs currently report the balance on impaired or past-due loans in ARF 220.0, split between owner-occupied and investor loans with no further detail.

The proposed ARF 223.0 will capture loans to households as well as borrowers which have similar risk profiles to households, such as loans to family trusts and SMSFs and to non-residents. ADIs will be required to report new information including: facility limits; a more detailed breakdown by LVRs; loan vintage; loans subject to lenders mortgage insurance; loans secured by property overseas; and loans secured by a unit or apartment.

The definitions used in ARF 223.0 have been streamlined to better align with ADIs’ own internal information management systems. For example, the definitions of an owner-occupied loan and an investor loan have been updated. These changes should make it easier to report and therefore reduce the ongoing reporting burden.

More detail about problem loans will be required than is currently reported on ARF 220.0. ADIs will be required to report past-due loans according to risk characteristics (such as loan type, origination channel and LVR), mortgage loans with hardship arrangements, mortgagee in possession loans, loans less than 90 days past due and new non-performing loans in the quarter.

2.2 Details of new loans
In addition to portfolio metrics, information on the risk profile of new loans is essential for analysis of ADIs’ credit risk.

ADIs currently report limited information on new loan approvals on ARF 320.8, including breakdowns on purpose, some loan features and LVRs. Revolving credit is not captured on ARF 320.8.

ARF 223.0 will require ADIs to report loans originated during the quarter, rather than loans approved, as this is a better and more reliable measure of loans affecting an ADI’s risk profile. Details on new loan originated to trusts operated by households, such as family trusts and SMSFs, will be included in reporting, as well as loans to non-residents. Originations of revolving credit facilities will also be reported.

ADIs will be required to report more detailed data on loans originated during the quarter than is required on ARF 320.8, including information on borrowers, loan-to-income ratios, collateral type and location and a more granular breakdown by LVR. Most of the existing detail on loan approvals reported on ARF 320.8 will continue to be reported for originations on ARF 223.0, such as loan purpose and loan features.
ADIs will also be required to report information on the average variable interest rate and average loan serviceability assessment rate of loans originated during the quarter. These data will be used to analyse changes in serviceability parameters.

2.3 Use of ARF 320.8
APRA’s needs for regular statistics on mortgage lending activity will be largely met by the proposed ARF 223.0.

However, the RBA relies on the information reported on ARF 320.8 to perform its role. The RBA will become the primary user of ARF 320.8 and has requested that APRA continue to collect the form on its behalf from ADIs with over $1 billion of residential mortgage term loans each quarter.
The RBA is currently reviewing ARF 320.8 and intends to consult ADIs on revised reporting requirements in late-2016. Both APRA and the RBA are working together to minimise reporting burden by limiting the overlap between collections, and by streamlining concepts and definitions.

Is competing on rate no longer an option?

From Mortgage Professional Australia.

Australia approached zero like an out-of-control spender. A cash rate cut here, a cut there, and everyone benefited (if you ignore first home buyers, savers and many others, of course). In August the RBA announced another cut, and giddy brokers prepared themselves for another housing boom, but like an obstinate ATM the banks simply didn’t cough up, refusing to pass on the full 25bp cut. Then the anger began.

Piggy-Business

 

This debate wasn’t just confined to the industry. Prime Minister Malcolm Turnbull summoned the banks to explain themselves – as they will now have to do every year – while FBAA CEO Peter White backed Labor’s royal commission into the banks, accusing banks of “filling their pockets”.

Yet many were less surprised. Then-RBA governor Glenn Stevens didn’t expect the banks to pass on the cut, as he later admitted to the Australian Financial Review: “We don’t have enough precision to say they will do X. We just felt probably if we cut 25[bp], they won’t – that won’t all come through.”

The debate the industry should have had wasn’t about why; it was about when. Bank interest rates are determined by the cost of funding: the cash rate plus the cost of doing business plus the costs of raising funds in wholesale markets, which have risen in recent months, explains Michael Witts, treasurer of ING DIRECT. “Even if the Reserve Bank had done absolutely nothing, the funding costs of the banks raising five-year money have increased by 40bp,” Witts says.

At 1.5%, the cash rate is low and not likely to go up again in the foreseeable future; in fact November could see another cut, according to CoreLogic’s head of research, Tim Lawless. Whether you look domestically or internationally, at the Australian economy or at the US Federal Reserve, the arguments against the RBA bringing the cash rate down to the low levels of other developed economies are few and far between. That’s what APRA recognised in its Corporate Plan 2016–20, observing “below-average growth for the global economy and expectations of low interest rates … negative interest rates are now featured across a growing share of government debt around the world”.

Negative interest rates remain an unlikely scenario in Australia, but a cash rate of close to 0% is becoming a real possibility. What’s less clear is how lending will fare in an environment in which rates cannot fall much further, or what a prolonged period of ultralow rates would do to the housing market and wider economy. MPA consulted bank leaders, industry experts and academics to see how brokers would fare in a 0% world.

“There is a theoretical lower limit below which you’ll never see a mortgage product priced. We’re getting close to that; I reckon it’s 3.5–3.6%” – Martin North, Digital Finance Analytics

What zero looks like
Ultra-low rates have a number of immediate effects, many of which we’re already seeing. Falling rates bring down mortgage repayments and thus make them more affordable; Adelaide Bank/REIA’s Housing Affordability Report for the June quarter found housing affordability was at its highest level since 2009, with repayments requiring 29.4% of household income. But at the same time, first home buyers lose out, as they find it more difficult to save for a deposit amid rising prices; FHBs now comprise just 14.3% of the owner-occupier market.

Lower repayments give borrowers more disposable income to put into the economy, but it appears this income is actually being used to repay loans faster. Mortgage Choice’s fullyear financial results found that the average loan life of existing loans has come down from five years in 2011 to just 3.9 years today.

“When you see a continual cycle of cuts in the cash rate as we have, people don’t necessarily reduce their rates by a corresponding amount,” said Mortgage Choice CEO John Flavell. “Accordingly, you see the rate of amortisation accelerate a little … We’re alert in relation to loan life, but we’re not alarmed.”

If the cash rate actually fell to 0% it could mean chaos for the banks. A recent report by Credit Suisse predicted it would take an average of 9% off major bank earnings; around $2.7bn, based on their 2016 forecasts. Earnings from standard variable mortgages would fall 41%, and the consequences for brokers could be extreme: head bankers looking to cut costs would quickly round on the sponsorships and hospitality associated with the broker channel.

Zero per cent is a nightmare scenario, but arguably just as scary is the realisation that lowering rates won’t necessarily produce the outcomes the RBA wants it to. Clearly Sydney and Melbourne’s housing markets have benefited from recent rate cuts, but results for the rest of the country and indeed the economy have been mixed. Professor Elisabetta Magnani is the head of the economics department at Macquarie University and a sceptic regarding ultra-low interest rates. “Interest rates are already very low, to the point where the nominal interest rates cannot really be reduced any further … the RBA is losing one important tool: to manipulate and boost the economy,” she says.

Magnani believes low interest rates only benefit certain groups, a point also made by Digital Finance Analytics principal Martin North. “I can think of very few logical reasons for why you would want to head towards 0% interest rates … there are very few winners in a low interest rate environment,” North says. Looking at economies in Europe and Japan, where 0% rates are a reality, he argues that “0% rates have not worked … the case for 0% intervention I don’t think has been made”.

Further interest rate cuts may continue to drive house prices, but they’re not going to bring first home buyers back into play, says CoreLogic analyst Cameron Kusher. “Lower interest rates are unlikely to draw out buyers who can’t currently afford to purchase; what they do potentially do is encourage those people that weren’t previously thinking of buying to purchase a home.”

The commercial property space has its own issues to contend with, CBRE’s head of research, Stephen Nabb, told MPA. “If you look at the response of things like business confidence and capital expenditure to the RBA cuts we’ve seen, it’s been fairly muted.”

With lots of capacity in the business sector there’s no need to expand, Nabb says, and the situation is not helped by cautious businesses. “We’re caught in a situation where no one wants to borrow more than their income growth, and income growth is fairly low across the country, because of things like commodity prices.”

Crucially, interest rate cuts don’t reduce all the costs associated with lending. Labour costs, from brokers, branches and credit teams, don’t go down to zero, which has led DFA boss North to the conclusion that “it’s almost impossible for banks to take their rates lower than they are … there is a theoretical lower limit below which you’ll never see a mortgage product priced. We’re getting close to that; I reckon it’s 3.5–3.6%. That’s pretty much as low as you’re going to see in the short to medium term”.

“Some people are going to be rate focused, and that’s always going to be the case, and there are others that have a longerterm relationship with an organisation” – Simone Tilley, ANZ Bank

How lending will need to change
If we really are approaching rock bottom for interest rates, then how can banks compete? It’s unlikely that borrowers will immediately forget about rates.

“There’s obviously markets that are totally price-driven,” Steve Kane, head of broker at NAB, told MPA. “They’re your online-type situation where they’re purely price-driven; they’re not looking for features.” Kane was talking about NAB’s new product range, which includes a basic low-rate produc for these types of borrowers.

However, banks are trying to move the conversation away from rate. Speaking to MPA, Simone Tilley, head of retail broker distribution at ANZ, noted that “interest rates are important, but fortunately for ANZ it’s not the only area we wanted to excel in”. Instead she said they were “looking at things through a more holistic lens” and looking at the type of customers they want to attract. “Some people are going to be rate-focused, and that’s always going to be the case, and there are others that have a longer-term relationship with an organisation,” Tilley said.

Traditionally, non-major banks have competed most on rate, yet they are even less able than the majors to cut costs to compete in a low interest rate environment. MPA asked ING DIRECT’s new CEO, Uday Sareen, how he planned to respond. “Rate is one key component where we do have a competitive advantage,” Sareen replied, referencing the bank’s lack of branches. He believes, however, that the real game changer will be the bank’s LendFast project, which aims to reduce turnaround times by one third. “That whole element of being able to turn it around quickly is as important as the rate … that is a big driver for us,” he said. Nevertheless he does believe there is further room to cut rates from their current level.

“That whole element of being able to turn it around quickly is as important as the rate … that is a big driver for us” – Uday Sareen, ING DIRECT

According to DFA’s North, improved bank service will be one area of competition; another will be innovation and packaging. Packaged products are already popular and are consistently named Product of the Year in MPA’s Brokers on Banks survey (currently Suncorp Home Package Plus), but North is most interested in the possibilities for portable mortgages, where a borrower can take a research that more and more households are wanting to do more on the mobile device.”

The major banks are already moving fast to provide phone payments, while the first fully electronic mortgage was signed and delivered with Bank Australia in early September. Yet having the opportunity to innovate and actually doing something in a different way to their competitors are two very different things for Australian banks. North believes the banks will continue to march as a herd: “I think there is very little evidence in Australia of any differentiation or innovation across the banks, and that’s because effectively they’re still making pretty decent margins on their current proposition.”

Failing substantial innovation, therefore, it seems likely that lenders will expect brokers to also become more efficient in 2017 and could be put in a position of strength by ASIC’s remuneration review, which reports in December. That’s not to say the broker proposition will be diminished: Mortgage Choice CEO Flavell sees complexity around products, pricing and credit policy as “wonderful opportunity” for brokers. What it could mean is that efficiency – rather than diversification or referrals – sets the agenda for broking as it enters the ultra-low interest rates era.