Is the gold rush over? For the past two years, it seems that everyone has wanted a piece of the non-conforming lending action.
We’ve seen investment banks, building societies and even start-up companies enter the field – and now we’re seeing the result of all this competition. For customers, there are great deals to be found. Look back 10, or even five years ago, and the products today are barely recognisable in terms of the value they provide.
From a handful of products where rates were high and sizeable deposits were required, there is now a huge range on offer. In most cases, apart from where there is high complexity, manual underwriting has been abandoned.
Indeed, the growth of cascade underwriting is evidence of the choice and alternatives available if a client is initially rejected.
For intermediaries, there is more choice than ever before. But for lenders these are challenging conditions and margins are being squeezed.
Most now believe consolidation is likely, although rather than exiting the market, we are more likely to see acquisitions.
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This is because for lenders that stay the course, further growth and improved trading conditions are likely, although this is also going to be a waiting game.
Near-prime opportunity
Meanwhile, mainstream lenders continue to reject many who apply for mortgages. And at the most extreme end of the scale are growing numbers of people opting for bankruptcy. In 2006, it was reported that the number of people taking out Individual Voluntary Arrangements had risen four-fold since 1993, to 28,000 a year.
Far more common are those with minor credit problems. It is relatively easy to gain a CCJ – plenty of zealous utility companies and local authorities, for example, waste no time in pursuing late payers for bills and council tax.
The near-prime market – predicted to be some 50 per cent to 60 per cent of the non-conforming sector – is bursting with products at rates not a million miles away from the high street.
It is possible for non-conforming lenders to adopt a ‘pile it high, sell it cheap’ attitude to near-prime. Pressure to win business may well have spurred some new entrants into launching loss-leading products to win market share. This cannot, however, be a sustainable strategy.
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Brokers in this market are sophisticated enough to ensure a swift move away at renewal. While we are more likely to see products launched with various bells and whistles on, these need to be tangible.
The non-conforming sector is led largely by influential packagers who are canny enough to see through irrelevant criteria and add-ons.
Differentiation in a crowded marketplace is not easy and there is simply not going to be enough near-prime business for everyone.
So, will we see more lenders taking risks?
Repossession stance
The worst case scenario for those with severe financial problems is repossession. For non-conforming mortgage lenders, this is not a straightforward issue.
Clearly, those with financial problems are a key target market. But, irresponsible lending to those who are unable to meet their obligations is going to bring the sector into disrepute. It takes time for those whose properties have been repossessed to turn into new customers.
Many lenders will now take a more proactive stance towards managing repossessions than when compared to the last UK property crash in the early 1990s.
Where possible, we will seek to find a way for the individual to remain in the property if a way can be found for them to get payments back on track.
But, while it is a last option, at the end of 2006, repossessions rose by 65 per cent on the previous year, which, on paper, appears frightening. In fact, the total figures were 17,000 – or one in every 690 mortgages.
These numbers are, in reality, not overly alarming. Even so, this is a warning for lenders across the board. Repossessions – aside from the moral factor – are untidy to deal with. Any lender that ends up with too many is likely to become an acquisition target or may withdraw from the market.
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Buy-to-let, for example, is booming, with the latest figures from the Council of Mortgage Lenders showing an 11 per cent increase in new lending. There were 178,000 loans taken out in this sector in the second half of 2006, which are the highest figures since surveys began in 1998. The total number of buy-to-let mortgages in the market is now around 850,000, with a value of around £94.8 billion.
Buy-to-let loans have become highly commoditised, but lenders need to make sure they are assessing risks correctly and this probably applies in particular to newcomers and those who are dabbling in the non-conforming buy to let arena.
In contrast to buy-to-let, the heavier adverse sector has attracted relatively few players. Even where a lender does have a product range, it is generally kept more at arm’s length because of the higher risks.
We are seeing smaller lenders trying to attract more business in this sector by widening their risk appetite, but it is clear that caution is needed and this may lead to problems if the economy takes a downturn.
Trouble in America?
Currently, there is alarm in the US because of problems with securitisation in non-conforming and some have questioned whether the ‘mortgage meltdown’ over there will happen over here.
Much of this is pretty sensationalist and conditions are different – in the US, house prices have taken a big fall, combined with rising interest rates. But it does show that even high street names such as HSBC can run into difficulties. It is said that its purchase of US non-conforming lender, Household International, has played a considerable part in the bank’s fall in earnings because of rising defaults on secondary mortgages in particular.
So while the US experience does not impact directly on the UK it has raised awareness about potential volatility.
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And, we should all be aware that in the US, around 22 non-conforming lenders have gone to the wall – and those which remain are undoubtedly taking a more conservative approach to their underwriting.
In complete contrast to the vast US, we have the advantage in much of the UK that property remains in short supply.
Last year, the Centre for Economics and Business Research stated that a crash is unlikely because of tight planning restrictions and as demand continues to outstrip supply.
So, the fundamentals are good for us in the UK – the problem is there is just an oversupply of non-conforming lenders.
I read in a business studies book a while ago about something called the rule of seven. This stated in any given market, you will generally only have seven companies operating. More than this, there is instability – and do intermediaries want more than this number to choose from?
It will be interesting to see how long it may take the market to get down to anywhere near seven lenders, if it does at all, as there are around 30 lenders operating in this sector at present. It would take a betting man to try and choose the winners in the sector in the medium to long-term, but it is clear to me that such a number operating in a sector that will probably see slowing growth is not sustainable.
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