The non-conforming sector has seen a feeding frenzy over the last couple of years.
Lenders have piled into the market in an attempt to capture a slice of the burgeoning pie and as the wider housing market has grown, the levels of business have grown with it. While some have been more successful than others, there have been times when it seemed like it was impossible not to make a profit from non-conforming lending.
That was until recently.
The downturn in the adverse market may not have reached crisis point yet. However, issues with its US counterpart have meant that everyone associated with the sector have been forced to adjust their expectations. Sustained growth and profit is no longer the order of the day as the feast of plenty has been reduced to a Darwinistic fight for survival.
Confidence
Within this, two things stand out. The first is a lack of confidence which has gripped the marketplace, with investors steering well clear of anything which sounds remotely like ‘non-conforming’. As one commentator puts it: “Confidence is like oxygen. When it’s there you don’t notice it – but when it isn’t, you find out fast.”
The other – directly linked to the confidence issue – has been the oft-used expression ‘flight to quality’, where investors and lenders alike shun what are perceived as high-risk products and look for safer ground.
As Linda Will, managing director of Accord Mortgages, explains: “Even though the Bank of England has tried to pump liquidity into the market, confidence is still low. But as investor confidence returns, there will be a flight to quality, with lenders competing to say how good and safe their portfolios are.”
Ian Giles, director of marketing at Kensington Mortgages, has already seen this in action, with the lender forced to pull product ranges that were undesirable in today’s climate. “We withdrew from the 75 per cent plus loan-to-value (LTV) arena as we didn’t want to go through the pain of generating assets without an exit route.”
A new battleground?
But what does ‘flight to quality’ mean for the mortgage industry? With everyone fleeing from adverse products, will a new battleground emerge with numerous players fighting for the same kind of business, much like the non-conforming sector over the past few years?
For Mark Sismey-Durrant, chief executive of Heritable Bank, movement in the market is inevitable. He says: “We know at the moment there is no demand from investors for non-conforming mortgages, so you will see the likes of Kensington and other adverse lenders focusing not on the specialist market, but instead on where they can offload mortgages at the right price.”
But where will lenders go? As Sismey-Durrant points out, it is very difficult for lenders to move swiftly from one area to another, especially into specialist sectors like buy-to-let, as the dynamics of the market are very different.
For Giles, the short-term solution for many lenders will be near-prime. He explains: “In the short term, flight to quality will mean flight to low risk. Investors aren’t as focused on getting a good margin on their portfolio. They want something low risk. So you will see near-prime portfolios of low risk products first.”
Will agrees, although she believes attitudes will evolve further. “In the short term, people will look to near-prime, but prime will be the future fighting ground as lenders will want to make their assets as sellable as possible.”
However, as Roger Brown, director of packagers at GMAC-RFC, admits: “Everyone is waiting for the next securitisation to re-establish confidence.” Therefore, until one investor plucks up enough confidence to return to the mortgage market and establishes what the securitisation market is willing to take on, no one really knows what will happen.
Short-term phenomenon
But lenders seem unanimous in their belief that a change in the market is going to happen, and many have already modified product ranges to accommodate this. However, they also believe that the flight to quality is a short-term phenomenon and the confidence in non-conforming mortgages will return.
As Giles says: “In the long term, there will be a shake up of the market. Lenders will leave, but the demand will stay the same. Therefore, those lenders that remain will be able to profit and price for risk. We will return to the conditions of a few years ago, but with fewer players pricing for risk.”
Brown agrees: “Mortgage lenders will want to move towards quality, but there are plenty of opportunities left in the non-conforming arena as the borrowers are still there and they have the same needs and demands. Supply and demand brought down prices in the past, but now risk will be a much greater factor.”
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