As the impact of the credit crunch ripples across the industry, the UK mortgage market is undergoing some of the most significant changes it has ever seen.
While important differences between the two markets mean that the combination of circumstances faced by US non-conforming lenders will not occur over here, the fallout of the crisis across the Atlantic has hit the confidence of investors, and demand for mortgage backed securities has slumped.
It is this crisis of confidence that has disrupted the status quo of the industry, effectively throwing the various elements of the market into the air as we all wait for them to land when investor confidence returns next year.
Exactly when next year is a matter open for debate. The Council of Mortgage Lenders is currently predicting mid-year, but one thing that is for certain is that, when the pieces do land, the landscape of the market will look very different to how it does today.
This provides challenge and opportunity for lenders, distributors and brokers alike as we look to prepare our businesses to take a lead in the new environment and develop operating models that are built for the future. At the core of this is remuneration – where are you going to make your money?
After all, with so many changes, it would be wrong to assume that the status quo will prevail for any part of the mortgage process and, with considerable debate surrounding the future of the fee structure even before the credit crunch currently affecting the market, this is something that all businesses should look at when considering their future operating models.
Main issues
The debate surrounding fees revolves around three main issues – the changing role of distributors, consumer trust in financial services companies and the transparency of the advice process.
In the past, mortgage intermediaries were paid for the three things they brought to the application process, namely advice, packaging and administration. However, as the industry has invested in technology, the role of brokers as administrators has lessened and it could now be said that they are paid for advice, packaging and distribution.
But with the prevalence of processes such automated valuations and electronic identity verification the role of distributors continues to change and further investment in technology means there is a decline in act of gathering documents to support a mortgage application.
In short, the days of packaging as a process are numbered and there is likely to be a shift in the remuneration structure to reflect this.
But while the process of packaging may be moribund, any packager with a robust business model is able to recognise this trend and react to the market and we are seeing the evolution of packagers into distribution experts, able to bring products to market and continue to add value to the application process.
Again technology is driving this change and forward-thinking distributors are carving themselves a niche by providing intermediaries with solutions such as multi-lender sourcing and cascade systems, which help brokers to search for specialist products and provide a supporting audit trail.
In reacting to the changing market many distributors will have a sound future in tomorrow’s mortgage market, and Kensington is working closely with our partners to ensure our business models are closely aligned to succeed in this new environment.
Indeed, we have recently announced the roll-out of our K-link integration programme with more than a dozen new distributors, enabling intermediaries to seamlessly enter a client’s information, source a product, produce a KFI and receive a decision in principle direct from Kensington through the distributor’s own platform.
Consumer group concern
Meanwhile, there has been growing concern among consumer groups about the transparency of fees within the financial services sector. Research from the Consumers’ Association has shown that only 47 per cent of consumers trust the financial services industry, and the Financial Services Consumer Panel has questioned the transparency of fees paid to intermediaries by lenders, as the current system could be seen to incentivise some lenders’ products.
This has come at a time when the Financial Services Authority (FSA) is proposing major changes to the retail investment market in its Retail Distribution Review (RDR), within which the key proposal is that the regulated investment advice market could be divided into two parts, giving choices to firms and greater clarity to the consumer.
The most highly qualified advisers would agree their remuneration directly with the customer and not with the product provider and could then call themselves ‘independent’. While those firms not meeting these conditions might wish to use provider-driven remuneration – i.e. commission – but if they did, they would not be able to call themselves independent.
The regulator says it does not currently intend to implement these proposed regulatory changes in the mortgage and general insurance sectors.
However, it is aware that the provision of investment advice or services will often include or arise from advice on other products, particularly in the case of mortgages and protection products. As such, the FSA has suggested the market may choose to apply the ideas put forward for the investment market to other types of business, and it is seeking feedback on the implications of this.
If these suggestions were applied to the mortgage industry, they would certainly force a change in the market, creating greater transparency for the consumer.
But a question mark still hangs over whether the proposed changes would be for the better? As the number of options available to consumers has increased, so has the importance of professional advice, and more borrowers are realising the value of making the right decision.
We have therefore seen an increase in the number of brokers charging upfront advice fees and the number of consumers prepared to pay them.
However, if an adviser was only allowed to be remunerated on either fees or commission, and not a combination of the two, then this trend could be reversed and we could see independent advice being priced out of the reach of many consumers as independent advisers would need to derive their entire income from the fees they charge.
No consistent income
One of the major issues of the current remuneration model and these proposed changes is that neither provides brokers with a consistent ongoing income, as cases are settled with one-off payments.
This potential fluctuation in income makes it difficult for intermediaries to budget for future earnings or value their business, particularly in a softening market, and so a model that spreads payment to the intermediary could prove a more sustainable option for the future mortgage market.
One option that meets this requirement could be taken from other financial services, with a model based that is on trail commissions. However, any payments that stretched beyond the term of the initial deal could be seen to incentivise inertia and therefore be anti- ‘Treating Customers Fairly’.
Another approach could see lenders rewarding intermediaries for good customer account performance, perhaps by splitting the income from a securitisation. However, this would only be efficient if there were economies of scale and as such only be suitable for the very largest mortgage intermediary operations.
Be prepared
Currently these ideas are just theories and theories only become reality if they align with market forces. While the market is in its current state of transition it is impossible to state for certain exactly which direction those forces will take, but the onus is on businesses to use this opportunity to make sure they are prepared for the future both in terms of internal processes and external relationships.
Internally, firms should be looking to ensure their operating models are lean and fit for the new environment so that, however they are remunerated, their income is used as efficiently as possible.
Externally, the key to success in tomorrow’s market is choosing the right partners to do business with today. This means choosing businesses that are also gearing up for the new landscape of the UK intermediary mortgage sector, by looking at the own operating efficiencies and building robust, sustainable businesses models.
Just as you must be prepared to adapt and evolve your business in reaction to market changes, so must the firms you partner with – and by building relationships with businesses that exhibit these qualities you will build a successful foundation for your business, however it is remunerated.
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