Irish mortgage rates should be higher given the arrears profile

[44brendan]

We should also remember that comparative to most other European countries their is a high loss ratio on Irish mortgages. The losses have to be covered through the margins achieved. For example if we take a bank who issues 10 mortgages in the year of 100,000 each. I.e. total additional lending of 1mln. cost of funds and operational costs amount to c1%. taking an average variable rate return of 4.5% the net return to the bank is 3.5% or 35K in real money. Now we need to set-aside funds to cover potential bad debts. Obviously this is likely to be high in Ireland given the arrears profile so lets say that for every 30 mortgages issued 1 is likely to go bad (I am simplifying this illustration as losses will not be that straightforward). bank will therefore need to set-aside a 3% risk premium to cover that cost. I.e. 30K pa. Actual return on the 1m investment to the bank will therefore be 5K pa on an investment of 1mln. However if the bank miscalculates its risk premium then that 5k is gone.
So how many investors out there would be prepared to invest their 1mln given the potential low return and high risk?

 

[Brendan Burgess]

Obviously this is likely to be high in Ireland given the arrears profile

Whenever I see the word "obviously" I get worried.

It is not remotely obvious to me at all. Why would the arrears history matter today? Why would it matter on 60% LTV mortgages?

Brendan

 

[Sarenco]

Whenever I see the word "obviously" I get worried.

It is not remotely obvious to me at all. Why would the arrears history matter today? Why would it matter on 60% LTV mortgages?

Brendan

Hi Brendan

Banks have to take historic losses into account in determining the approprate level of impairment provisioning to apply to new loans. In other words, a high level of historic losses adds to a lender's regulatory capital requirement into the future.

A borrower with a low LTV may well exhibit greater repayment discipline but, ultimately, if a lender cannot enforce their security in a cost efficient and timely manner, a low LTV will provide limited additional protection to a lender if the borrower defaults.

The above ECB figures represent average new mortgage lending rates - not average mortgages rates generally. The average rate charged by Irish banks on all outstanding mortgages is actually pretty close to the European average, which is surprising given the significant level of non-performing mortgages in Ireland (roughly 10% are in some form of distress) and the relatively concentrated nature of our mortgage lending market.

The average rate on all outstanding variable rate mortgages in France (3.08%), to take one example, is actually higher than the comparable rate in Ireland (2.77%). Obviously the large low-yielding tracker books of most Irish lenders impact these figures significantly.

Given the limited (or, in the case of PTSB, non-existent) profitability of Irish banks, it is difficult to conclude that our lenders are somehow profiteering in the current environment. However, I am personally convinced that borrowers that are not in a position to switch mortgage providers should be given some legal protection in the form of an mortgage interest rate cap that is calculated by reference to new lending rates.

 

[Brendan Burgess]

Banks have to take historic losses into account in determining the approprate level of impairment provisioning to apply to new loans.

This makes no sense to me at all. It would make sense if the current lending practices were the same as the lending practices when the losses arose.

But the lenders went crazy between 2002 and 2007. They lent high multiples of income. They lent high loan to values. If they were lending 6 times income and 100% LTV now, then they would have to plan for a much higher risk cost.

But consider a new entrant to the Irish market lending a maximum of 60% LTV and 3 times income. They history of losses is simply not relevant to them and they should price their loans accordingly.

A borrower with a low LTV may well exhibit greater repayment discipline but, ultimately, if a lender cannot enforce their security in a cost efficient and timely manner, a low LTV will provide limited additional protection to a lender if the borrower defaults.

The difficulty in enforcing security is a valid reason for charging Irish borrowers with high Loan to Values a higher rate. I have always argued that and I have always argued that facilitating repossession would be good for all borrowers, because it should bring down the interest rates generally.

I have watched a few cases where there is plenty of positive equity and the bank is trying to repossess the house. Take a mortgage of €200k on a house worth €400k. The lender should be charging 2.5% on this loan, but they are charging 4.5%. So they are making €4k a year in excess profits. It may take them three years to repossess the property, but they will have made an additional €12k in super profits in that period. The solicitors charge around €2,000 for a repossession case. So the risk premium for low LTV loans should be tiny.

The average rate on all outstanding variable rate mortgages in France (3.08%), to take one example, is actually higher than the comparable rate in Ireland (2.77%). Obviously the large low-yielding tracker books of most Irish lenders impact these figures significantly.

Given the limited (or, in the case of PTSB, non-existent) profitability of Irish banks, it is difficult to conclude that our lenders are somehow profiteering in the current environment.

I can understand the lenders and the Central Bank making this argument. But I can't understand anyone else making it.

The Fair Mortgage Rates Campaign is arguing that the rate on non-trackers is too high. It's clearly too high. It is this rate of 4.2% which you should be comparing with the French rate of 3.08%.

It's clear that the lenders have sunk costs in the trackers, but a small group of non-tracker mortgage holders should not have to pay for them.

The profitability of separate products should be judged separately.

No one seems to argue that current account holders should pay €2,000 a year in fees to compensate for the huge losses which the lenders incurred on development loans.

Say my local Spar shop has entered into a deal with half its customers to provide goods at cost for the next 20 years. Do you think that they can compensate for this by charging the rest of us double the price? We would simply go to the Centra across the road. As a customer, I couldn't care less about the profitability of the Spar shop or the mortgage lender.

 

[Sarenco]

This makes no sense to me at all. It would make sense if the current lending practices were the same as the lending practices when the losses arose.

But the lenders went crazy between 2002 and 2007. They lent high multiples of income. They lent high loan to values. If they were lending 6 times income and 100% LTV now, then they would have to plan for a much higher risk cost.

But consider a new entrant to the Irish market lending a maximum of 60% LTV and 3 times income. They history of losses is simply not relevant to them and they should price their loans accordingly.




The difficulty in enforcing security is a valid reason for charging Irish borrowers with high Loan to Values a higher rate. I have always argued that and I have always argued that facilitating repossession would be good for all borrowers, because it should bring down the interest rates generally.

I have watched a few cases where there is plenty of positive equity and the bank is trying to repossess the house. Take a mortgage of €200k on a house worth €400k. The lender should be charging 2.5% on this loan, but they are charging 4.5%. So they are making €4k a year in excess profits. It may take them three years to repossess the property, but they will have made an additional €12k in super profits in that period. The solicitors charge around €2,000 for a repossession case. So the risk premium for low LTV loans should be tiny.



I can understand the lenders and the Central Bank making this argument. But I can't understand anyone else making it.

The Fair Mortgage Rates Campaign is arguing that the rate on non-trackers is too high. It's clearly too high. It is this rate of 4.2% which you should be comparing with the French rate of 3.08%.

It's clear that the lenders have sunk costs in the trackers, but a small group of non-tracker mortgage holders should not have to pay for them.

The profitability of separate products should be judged separately.

No one seems to argue that current account holders should pay €2,000 a year in fees to compensate for the huge losses which the lenders incurred on development loans.

Say my local Spar shop has entered into a deal with half its customers to provide goods at cost for the next 20 years. Do you think that they can compensate for this by charging the rest of us double the price? We would simply go to the Centra across the road. As a customer, I couldn't care less about the profitability of the Spar shop or the mortgage lender.

Well, whether or not it makes any sense to you, it has always been the case that banks have to take historic losses into account in determining impairment provisions for new loans. You would certainly hope that stricter underwriting criteria will result in lower impairments going forward but only time will tell whether this actually proves to be the case.

A new entrant to the market without such historic losses will obviously have a lower cost of capital and can offer more competitive rates to attract new business. In my opinion, public policy should be directed to encourage (and certainly not discourage) new entrants and capital into our banking system in order to drive down the cost of credit. Do you disagree?

The legal costs associated with effecting a repossession is a relatively modest proportion of the overall cost associated with negotiating a lengthy, cumbersome repossesion procedure. The management and staff time involved are an obvious cost but the cost of capital involved is the most significant cost.

I don't understand how a non-performing loan could ever be profitable for a lender, never mind super-profitable.

Has the SVR campaign changed its name and objective? It would also be helpful if you could set out its demands or its policies for pursuing its current objectives as this is entirely unclear to me.

Why would you compare the average variable rate on all outstanding mortgages with average new lending rates? That makes no sense whatsoever.

Average new variable mortgage rates in France, for example, are currently around 2.08%, which is obviously far lower than new variable lending rates in Ireland. I don't think anybody would argue that new mortgage lending rates in Ireland are not elevated by average European standards.

Why would you compare discrete bank products in isolation from all other bank products? Again, that makes no sense whatsoever.

The cost of credit in Ireland across all products (personal loans, business loans, mortgages, etc.) is certainly elevated by European standards, in large part because of the large losses on historic loans and our failure to deal with these non-performing loans in an expeditious manner.

It is obviously true that an individual borrower should have no regard for the profitability of a lender in taking out a loan. However, there is an obvious public policy interest in ensuring that banks are sustainable - bear in mind that the primary reason for regulating banks in the first place is to ensure, so far as practicable, that depositors are protected. Ignoring the financial position of our banks when determining banking policy would be totally irrational and counter-productive.

 

[epicaricacy]

Colm McCarthy's article 'Unprofitable trackers hide full extent of bank losses' Irish Independent 24th May '15 is excellent.

 

[Brendan Burgess]

Well, whether or not it makes any sense to you, it has always been the case that banks have to take historic losses into account in determining impairment provisions for new loans. You would certainly hope that stricter underwriting criteria will result in lower impairments going forward but only time will tell whether this actually proves to be the case.

A new entrant to the market without such historic losses will obviously have a lower cost of capital and can offer more competitive rates to attract new business.

I have never accepted the argument for anything "It has always been the case." That is simply not a justification. It might suggest that there is a good reason for something, but it is not in itself a good reason.

The historic losses are simply not relevant. Let's take an analogy. AIB has historic losses in Ireland. It starts lending in Denmark. So it prices its risk based on its Irish losses? No it would not. Likewise lending today is a different country from lending 10 years ago. The risk is much lower and it so the rates should not reflect the losses caused by the reckless lending of 10 years ago.

You talk about a new entrant to the market. If Santander enters the Irish market and starts offering low LTV loans at 2.5%, those customers of the other banks who can move, will move. As soon as that happens, all the academic arguments about historic losses will disappear and the banks will lower their new business rates to 2.5%.

In my opinion, public policy should be directed to encourage (and certainly not discourage) new entrants and capital into our banking system in order to drive down the cost of credit. Do you disagree?

In an ideal world, competition would sort out the problem and there would be no need for regulatory control. But guess what? It's not an ideal world. The banks run a cartel and fleece their customers by charging low-risk new business far more than than they should. There is no sign of a competitor coming in so, unfortunately, there has to be some control while the market remains dysfunctional.

It's not acceptable to tell the 300,000 variable rate borrowers who are paying around €250 a month in excess interest to wait until a new lender enters the market.

I don't understand how a non-performing loan could ever be profitable for a lender, never mind super-profitable.

A lot of people and, indeed, a lot of banks don't understand this either. But think about it. The total cost of the inputs and cost of capital (allowance for profit) for a low LTV loan in Ireland, excluding risk, is around 1.5%, but let's say 2%. While they are charging above 2%, they are making supernormal profits. They continue to charge this rate during the 5 year long repossession process. So they continue to make supernormal profits. Banks make money by lending money. The longer they charge, the more money they make.

Has the SVR campaign changed its name and objective? It would also be helpful if you could set out its demands or its policies for pursuing its current objectives as this is entirely unclear to me.

Yes, we have adopted the name The Fair Mortgage Rates campaign. Thanks for the suggestion on publishing the objectives. We have agreed them. I will set them out in writing, get the agreement of the others, and publish them.

Why would you compare the average variable rate on all outstanding mortgages with average new lending rates? That makes no sense whatsoever.

Average new variable mortgage rates in France, for example, are currently around 2.08%, which is obviously far lower than new variable lending rates in Ireland.

There is a bit of confusion here. I was using your figures. I was objecting to your comparison of all outstanding variable rates in France 3.08% with the equivalent rate of 2.77% in Ireland. The rate in Ireland is an average of 1% on trackers and 4.2% on non-trackers. You should compare the 3.08% with the 4.2%.

But the real comparison is in the new business variable rate which is the main figure I have been campaigning on. In France, it is 2.08%. In Ireland it is over twice that at 4.2%. There is simply no justification for this. Why should a First Time Buyer or a switcher pay 2% points more? It's completely unjustified. And I repeat, I accept that higher LTV mortgages in Ireland should be charged more while we make it difficult for lenders to repossess.

Why would you compare discrete bank products in isolation from all other bank products? Again, that makes no sense whatsoever.

Not sure what you mean by that. In Ireland products are generally discrete and are priced separately. The exceptions are KBC and Ulster Bank who give discounts for those who hold current accounts. I don't have a problem with this, but they are still charging excessive rates after the discounts.

However, there is an obvious public policy interest in ensuring that banks are sustainable - bear in mind that the primary reason for regulating banks in the first place is to ensure, so far as practicable, that depositors are protected. Ignoring the financial position of our banks when determining banking policy would be totally irrational and counter-productive.

There are conflicting interests. I do think that the requirement to treat borrowers fairly has to be taken into account. I am not suggesting that the banks should not make profits on their variable mortgage rate products. Clearly they should. When AIB and BoI were charging 3% and were paying 3% on deposits, I advocated that they should raise mortgage rates.

AIB and BoI and ptsb can charge fair rates and their variable rate mortgage book will contribute to profit.
They have fully provided for the historic losses and are now writing back the provisions, so they no longer need a margin for that.
BoI has a small margin on its trackers
AIB is making a small loss of margin on its trackers.

ptsb is the big problem. The margin on its variable rates is not enough to pay the costs of administration of the whole book and the small loss on its trackers. But that is the shareholders' problem. The shareholders should put in sufficient capital. It should not fleece its non-tracker customers to cover all the costs of operating the book and building up capital.

If a new lender were to enter the market, all the arguments you , the banks , the government and the Central Bank have put up will fall apart. New business rates would fall to 2.5% to 3%. We would still have a problem of 150,000 borrower who cannot move so we would still need some legal mechanism to protect them. If we don't, then you will be back here justifying a margin of 6% on these loans so that the banks will be profitable.

 

[Sarenco]

I have never accepted the argument for anything "It has always been the case." That is simply not a justification. It might suggest that there is a good reason for something, but it is not in itself a good reason.

The historic losses are simply not relevant. Let's take an analogy. AIB has historic losses in Ireland. It starts lending in Denmark. So it prices its risk based on its Irish losses? No it would not. Likewise lending today is a different country from lending 10 years ago. The risk is much lower and it so the rates should not reflect the losses caused by the reckless lending of 10 years ago.

You talk about a new entrant to the market. If Santander enters the Irish market and starts offering low LTV loans at 2.5%, those customers of the other banks who can move, will move. As soon as that happens, all the academic arguments about historic losses will disappear and the banks will lower their new business rates to 2.5%.



In an ideal world, competition would sort out the problem and there would be no need for regulatory control. But guess what? It's not an ideal world. The banks run a cartel and fleece their customers by charging low-risk new business far more than than they should. There is no sign of a competitor coming in so, unfortunately, there has to be some control while the market remains dysfunctional.

It's not acceptable to tell the 300,000 variable rate borrowers who are paying around €250 a month in excess interest to wait until a new lender enters the market.




A lot of people and, indeed, a lot of banks don't understand this either. But think about it. The total cost of the inputs and cost of capital (allowance for profit) for a low LTV loan in Ireland, excluding risk, is around 1.5%, but let's say 2%. While they are charging above 2%, they are making supernormal profits. They continue to charge this rate during the 5 year long repossession process. So they continue to make supernormal profits. Banks make money by lending money. The longer they charge, the more money they make.



Yes, we have adopted the name The Fair Mortgage Rates campaign. Thanks for the suggestion on publishing the objectives. We have agreed them. I will set them out in writing, get the agreement of the others, and publish them.



There is a bit of confusion here. I was using your figures. I was objecting to your comparison of all outstanding variable rates in France 3.08% with the equivalent rate of 2.77% in Ireland. The rate in Ireland is an average of 1% on trackers and 4.2% on non-trackers. You should compare the 3.08% with the 4.2%.

But the real comparison is in the new business variable rate which is the main figure I have been campaigning on. In France, it is 2.08%. In Ireland it is over twice that at 4.2%. There is simply no justification for this. Why should a First Time Buyer or a switcher pay 2% points more? It's completely unjustified. And I repeat, I accept that higher LTV mortgages in Ireland should be charged more while we make it difficult for lenders to repossess.



Not sure what you mean by that. In Ireland products are generally discrete and are priced separately. The exceptions are KBC and Ulster Bank who give discounts for those who hold current accounts. I don't have a problem with this, but they are still charging excessive rates after the discounts.



There are conflicting interests. I do think that the requirement to treat borrowers fairly has to be taken into account. I am not suggesting that the banks should not make profits on their variable mortgage rate products. Clearly they should. When AIB and BoI were charging 3% and were paying 3% on deposits, I advocated that they should raise mortgage rates.

AIB and BoI and ptsb can charge fair rates and their variable rate mortgage book will contribute to profit.
They have fully provided for the historic losses and are now writing back the provisions, so they no longer need a margin for that.
BoI has a small margin on its trackers
AIB is making a small loss of margin on its trackers.

ptsb is the big problem. The margin on its variable rates is not enough to pay the costs of administration of the whole book and the small loss on its trackers. But that is the shareholders' problem. The shareholders should put in sufficient capital. It should not fleece its non-tracker customers to cover all the costs of operating the book and building up capital.

If a new lender were to enter the market, all the arguments you , the banks , the government and the Central Bank have put up will fall apart. New business rates would fall to 2.5% to 3%. We would still have a problem of 150,000 borrower who cannot move so we would still need some legal mechanism to protect them. If we don't, then you will be back here justifying a margin of 6% on these loans so that the banks will be profitable.

The rationale for taking historic losses into account in setting impairment provisions is simply that there are no other concrete figures available to reference. You might hope/expect that more rigorous underwriting standards today would result in lower impairments going forward but, in absence of a crystal ball, you can't actually know in advance that this will be the case.

In any event, "dems de rules"- if you disagree with the current regulatory requirements you can certainly raise your concerns with the Basel Committee but, in the meantime, our banks are required to comply with the current regulatory requirements.

I would be delighted if Santander entered the Irish market and undercut the incumbents with a more competitive mortgage offering. Would the incumbents follow suit if they were undercut to the extent suggested? I doubt it. Frankly, I don't think they could afford to.

Remember that approximately fifteen years ago Bank of Scotland entered the Irish mortgage market and undercut the incumbents by roughly 1% in terms of the variable rates offered. The incumbents at that time tried to compete and we know where that ended up.

However, I certainly agree that attracting new entrants and capital into our banking system is the best way of achieving a sustainably lower cost of credit to our economy. If the incumbents can't compete - well, so be it.

Fixing mortgage interest rates (or attempting to do so) is one sure fire way of scaring off any prospect of new lenders entering the market and achieving sustainably lower borrowing costs in the medium term.

The Central Bank has clearly indicated that they have no intention of requiring banks to charge lower variable rates in the current circumstances, even if they had the statutory authority to do so. The current private members' bills before the Oireachtas in this regard are nothing more than political posturing - even if by some miracle one of the bills was enacted it would be nothing more than a Pyrrhic victory.

How do you conclude that the total cost of a low LTV "should" be around 1.5-2%? Have you any basis for these figures? Look at the (relative lack of) profitability within the Irish banks and start from there.

As regards the newly named campaign, could you set out its objectives and its demands/proposals. I think we all want to see a lower cost of credit in Ireland (that is really just voting for motherhood and apple pie) but I suspect we would disagree fundamentally as to how this might best be achieved.

I really don't think there was any confusion with my figures - I was simply comparing apples to apples. Yes, the new variable mortgage lending rate today is almost twice the new lending rate in France and I suspect the reverse would have been the case 10 years ago. As we now know, mortgage lending in Ireland is very risky and hence rates are high - we all wish this wasn't the case.

You can certainly compare rates for a particular product in one jurisdiction with rates for that product in another but doing so while ignoring the background that gave rise to these differences seems pointless.

I would be stunned if the cost of funds to any of our lenders today is higher than the average margin being charged on their respective trackers. In any event, trackers now constitute a (significant) minority of aggregate outstanding mortgage loans across our banks and this will continue to reduce over time.

I don't understand your point about what shareholders in PTSB should do with their money. Surely investors should simply seek the highest risk-adjusted return on their capital. To do otherwise would be very odd.

Again, I believe our public policy should be directed at encouraging (and certainly not discouraging) new entrants and capital to our banking system. Were you under the impression that I was advocating something else?

For the avoidance of any doubt, I have no particular interest in seeing the current incumbents succeed commercially. My interest is seeing a sustainable, properly regulated banking system where depositors can be confident that their money will be returned on demand and credit can be supplied to the economy at the lowest possible cost. I have no interest whatsoever in short term "fixes" to complex problems or political posturing.

 

[Brendan Burgess]

As we now know, mortgage lending in Ireland is very risky and hence rates are high - we all wish this wasn't the case.

High LTV lending is very risky. But low LTV lending simply is not risky and is extremely profitable.

I don't understand your point about what shareholders in PTSB should do with their money. Surely investors should simply seek the highest risk-adjusted return on their capital. To do otherwise would be very odd.

I am not sure that a company should simply seek the highest return to the exclusion of everything else. ptsb is in a very difficult position. It is bust. It can only survive by fleecing a small number of its customers. This is not a sustainable business policy in the medium to long term. Either a new entrant will force down the rates or legislation will force down the rates. I would prefer if it were a new entrant, but in the absence of a new entrant, unfortunately it will have to be done by legislation.

Brendan

 

[Brendan Burgess]

"dems de rules"- if you disagree with the current regulatory requirements you can certainly raise your concerns with the Basel Committee but, in the meantime, our banks are required to comply with the current regulatory requirements.

Hi Sarenco

I am not an expert on Basel II or III, but this does surprise me. Can you link me to the section where it says that history which is no longer relevant must be taken into account in determining the risk of lending today? I had a quick look but could not find it.

Thanks

Brendan

 

[Gerry Canning]

Did we not put enough funds into Banks so as they could carry most of the old (fluffy)times arrears/losses?

If that is so ,#
1. It is patently unfair to re-penalise good paying Standard Variable Rate (SVR) Mortgage holders.
2. It is also (twisted) thinking to even mention Tracker Mortgages as a quasi rate justification.eg if car dealer sold you a car too cheaply would he be permitted to go back and add xtra onto previous agreed sales?
3. I was very very much of the opinion, that our saving Banks did NOT include re-robbing good customers.

Those who can and won,t pay should be hammered , but to just blame our repo system is plain wrong.
From what I can see , our (professionals) Bankers ,Solicitors etc made a complete haemes in many instances of taking saleable title to premises. Our Bankers ,froze for the first couple of years.
I still do not see a real attempt at solving arrears, I fear that our jellyfish Bankers/Politicians will permit blocks of arrears to be sold to vulture funds .These funds will screw people one by one by one.

 

[Sarenco]

Hi Sarenco

I am not an expert on Basel II or III, but this does surprise me. Can you link me to the section where it says that history which is no longer relevant must be taken into account in determining the risk of lending today? I had a quick look but could not find it.

Thanks

Brendan

IAS39, Basel II and various guidance papers are all relevant to the determination and disclosure of appropriate impairment provisions.

It is certainly permissible to adjust provisions based on historic losses to take account of changed circumstances - including the application of tighter underwriting criteria - but a bank can't simply ignore historic losses completely and declare that they are no longer relevant in determining appropriate provisions for future losses.

 

[Sarenco]

High LTV lending is very risky. But low LTV lending simply is not risky and is extremely profitable.




I am not sure that a company should simply seek the highest return to the exclusion of everything else. ptsb is in a very difficult position. It is bust. It can only survive by fleecing a small number of its customers. This is not a sustainable business policy in the medium to long term. Either a new entrant will force down the rates or legislation will force down the rates. I would prefer if it were a new entrant, but in the absence of a new entrant, unfortunately it will have to be done by legislation.

Brendan

Well, a low LTV loan is obviously not profitable if a borrower defaults!

I certainly wouldn't invest in a company that wasn't committed to legally maximising its profits - would you?

PTSB has an unusually high proportion of trackers but, from memory, approximately 35% by value of outstanding mortgages on PTSB's books are not trackers so I'm not sure you could call that a small number of customers. In any event, I agree that some legal protection for borrowers that are not in a position to switch mortgage provider is warranted and I have suggested the introduction of an interest rate cap calculated as a percentage of average new lending rates as returned to the ECB to ensure that "captive" borrowers are not exploited.

Could you clarify what you mean by "legislation forcing down rates"? Do you mean that the Central Bank (or somebody else) should be given the statutory power to intervene when it considers a lender is charging a usurious rate or something else? Do you think the Central Bank would be likely to intervene in the current circumstances? Are you concerned that the introduction of any such legislation might jeopardise the licences held by any banks in which the State holds an interest? Or that it might reduce the possibility of any new entrants, or the injection of new capital, to our mortgage market?

I don't think there is any realistic possibility that any such legislation will be enacted but I would be interested to see some rebuttals to the objections that have been articulated to date.

 

[44brendan]

Well, a low LTV loan is obviously not profitable if a borrower defaults!

Not necessarily true! Should such a borrower default & ultimately the property is re-possessed and sold the lender can re-coup the full amount other together with all accrued interest and expenses of re-possession. I.e. No loss incurred and a profit on the interest margin on the loan!

 

[Brendan Burgess]

Well, a low LTV loan is obviously not profitable if a borrower defaults!

Thanks for answering this brendan. I had explained it twice already.

Brendan

 

[Sarenco]

Not necessarily true! Should such a borrower default & ultimately the property is re-possessed and sold the lender can re-coup the full amount other together with all accrued interest and expenses of re-possession. I.e. No loss incurred and a profit on the interest margin on the loan!

Except that the lender will have various irrecoverable operational and legal costs (as well as ongoing funding and capital costs related to the non-performing loan) during the period between the initial default and realisation of the secured asset, which will invariably account for most, if not all, of the profit that might otherwise have been made on the interest margin.

You also obviously have to assume that the realisable value of the secured asset does not fall during this period to a point where the sales proceeds are insufficient to capture the full amount of the loan outstanding together with all accrued interest and recoverable legal expenses, stamp duty and other outlay.

 

[Brendan Burgess]

Well, a low LTV loan is obviously not profitable if a borrower defaults!

We are talking about low LTV loans. So yes we are assuming that the realisable value won't fall enough to wipe out the loan.

as well as ongoing funding and capital costs related to the non-performing loan

A performing loan with a low LTV has the same funding and capital costs as a non-performing loan.

Sarenco - Conventional wisdom has it that all defaulting loans cost lenders money. They don't. Where there is sufficient equity and the interest rate is profitable, then they don't. I do appreciate it's hard for people to have conventional wisdom challenged, but I am sure that if you think it through, you will see that conventional wisdom is wrong.

Brendan

 

[Sarenco]

Brendan

I am not trying to justify or advance any conventional wisdom. I am simply challenging your bald assertion that "low LTV lending simply is not risky and is extremely profitable".

Low LTV lending is obviously less risky than high LTV lending but it is far from risk-free and where a low LTV loan defaults the proceeds of any ultimate sale will rarely produce any material profit for a lender once all irrecoverable expenses are taken into account.

Bear in mind that the value of the property has to be sufficient to absorb the outstanding balance of the loan plus all accrued interest plus all costs (including stamp duty) associated with gaining possession and disposing of the property. The professional costs alone (solicitor, barrister, auctioneer) could easily account for 5% of a property's value.

It's a big assumption (or risk) that a low LTV at the time a loan is originated will remain in place at the time any associated security is realised. A low LTV loan drawn down in 2006 would almost certainly have ceased to to be a low LTV loan by 2012 for example. Also, repossessed properties are often unoccupied for a period or have deferred maintenance issues which can also materially impact the realisable value of a property.

I didn't suggest that an NPL would have a different funding cost to a performing loan but there would obviously be a "carry cost" during the default period. Whether or not the capital cost is higher will depend on whether an impairment charge is booked by the lender.

Defaulting loans always cost a lender money. Whether or not these costs can subsequently be fully or partially recouped is a different matter.

 

[Brendan Burgess]

Hi Sarenco

I think you are clutching at straws here.

Of course there is a risk in all lending. The property may be wiped out by an explosion and not be insured. Property prices may fall 50% and the borrower may be unable to pay their loan. The legal documentation may be faulty.

You are comparing bubble prices of 2006 with a disposal in 2012. I am talking about the risk now. Not the risk of buying at the worst possible time and selling at the worst possible time.

Even still, a 50% LTV loan drawn down at the peak in 2006 and sold at the trough in 2012 is unlikely to have lost the lender much money. Most people with low LTV loans make every effort to pay their mortgage, so it's unlikely that you would have 6 years of accumulated interest.

Whatever way you cut it, the lenders are making huge, virtually risk-free profits on low LTV mortgages now. Right, they may lose money on one loan in 100,000, but the excess profits far outweigh that.

Brendan

 

[Sarenco]

Hi Brendan

Look at the language you have used yourself! In three short paragraphs you have jumped from "there is a risk in all lending" to "unlikely to have lost the lender much money" to - hey presto - "huge, virtually risk-free profits"!

Only time will tell whether the risk of lending today is lower than it turned out to be in 2006. You would certainly hope that this will turn out to be the case but there are certainly plenty of problems in the world today that were not apparent in 2006.

I obviously agree that low LTV lending carries a lower risk than high LTV lending for all the reasons outlined above. However, it is certainly not risk free - there is a world if difference between "not losing much money" and "extremely profitable".

Should the interest margin for low LTV mortgages be lower than is currently the case in the Irish market? Quite possibly but I'm not sure SVRs (or higher LTV mortgages) could (or should) bear higher interest margins to accomodate charging lower rates on low LTV mortgages. To a certain extent, low LTV mortgages may be "subsidising" SVRs and higher LTV loans but I'm personally comfortable with that.