Wholesale funding - Weathering the storm

At the market peak, a little over a couple of years ago, prime residential mortgage backed securities (RMBS) sold for as little as 15 to 20 basis points above the bank bill swap rate (BBSW).

It’s a very different story today.

In the last transaction to be priced – Suncorp-Metway’s sale of $1.478 billion in RMBS – the A3 tranche of $849.2 million was priced at 130 bps above BBSW, $499.2 million of which was bought by the Australian Office of Financial Management (AOFM). In recent months, prime RMBS have been known to sell for 170 basis points above the BBSW.

The high costs associated with wholesale funding have left the door open for the big four to soak up extra market share – and soak it up they have. According to statistics from the Australian Prudential Regulation Authority (APRA), the major banks now account for more than 81 per cent of the wholesale funding market.

Non-bank lenders on the other hand hold an estimated 2.5 per cent share, down from 12 per cent.

Many blame the government’s wholesale funding guarantee in part for the situation, labelling it “unfair” and “unjustified”.

“We are actively encouraging the government to consider improvements to the scheme pricing to provide better access to wholesale funds to support competition in retail banking,” says Abacus chief executive Louise Petschler, who believes the guarantee disadvantages smaller institutions.

Although the government has indicated the wholesale funding guarantee will be kept in place for the time being, it has looked at other options to reinvigorate competition in the lending sector.

In September last year, it injected $8 billion into the RMBS market via the AOFM, with a further $8 billion injection to help shore up small home loan lenders against the big four.

Mortgage EZY executive chairman Peter James says while the extra support was warranted, the rating and criteria lenders need to meet to access the support could act to stifle competition in the securitisation market. But he acknowledges that non-bank lenders such as Mortgage EZY have benefited from the support.

“Some securitisers cherry-picked loans while others provided competitive funding to borrowers only with a low LVR and in blue ribbon locations,” he says, adding: “In some ways this has benefited us because we have an uncapped amount of funding and have naturally picked up the market share of our peers.

“What is significant is that despite these difficulties, wholesale provisioning has turned market niches into distribution channels that prior to the financial crisis were inconceivable to access by non-banks,” Mr James says.

First Mac is another lender that has managed to navigate a way through the crisis and has increased its market share as a result.

Today, First Mac’s managing director Kim Cannon says demand is currently outstripping supply in the wholesale market.

“I think it is interesting to see so much demand in the sector at the moment because the costs of wholesale funds are so high,” Mr Cannon says.

“Fortunately, for us, we were one of the last recipients of the government’s [AOFM support] so we are currently in a very good position.”

But despite the heightened demand from borrowers, Mr Cannon says he thinks it will be another six to 12 months before liquidity is fully restored and loans are originated without government support.

“At present, the future of wholesale funding is largely dependent on investors returning to the securitisation market and purchasing RMBS on a large scale,” Mr Cannon says.

“Government support will only go so far and ultimately these markets need to begin operation without assistance before true certainty of wholesale funding will return.”

BETTER DAYS AHEAD

Better Mortgage Management managing director Murray Cowan says both the domestic and international securitisation markets will play a role in determining the future of the wholesale funding market.

“If the markets improve and investors return, we would expect very competitive pricing to follow,” Mr Cowan says.

In fact, one Australian investor has already announced its intention to re-enter the mortgage backed securities market without government support.

In September, ME Bank issued $200 million of AAA rated RMBS at about 175 basis points over the swap rate under the Maxis Securitisation Fund.

The issue represented the first of its kind in the global market and was seen as a sign that the securitisation market was on the mend.

But despite ME Bank’s obvious faith in the market, Australia is yet to see another lender take the plunge.

Challenger’s general manager of distribution Steve Weston says other investors around the world are slowly starting to trickle back into the market, which could encourage more investors to look to Australia.

Last month, Challenger was formally acquired by NAB – a move Mr Weston says was a positive development for both Challenger and the industry as a whole.

“Under the new acquisition agreements, we will have unlimited access to funding, but we will still be able to keep our independence from NAB, which is of benefit to our customers,” he says.

Iain Forbes, Australian First Mortgage’s director of sales and marketing, says his company will benefit as a result of the acquisition, with access to wholesale funds easier and potentially more affordable.

“From our point of view, business is currently booming. Obtaining wholesale funding has always been pretty easy and we can see that demand is starting to pick up in the area,” Mr Forbes says.

BROKER PROPOSITION

ING DIRECT executive director of mortgages Lisa Claes says the decline of the securitisation market over the past two years has diminished competition and reduced access to funding to support higher levels of lending.

“The strength of the primary bank debt markets and the support of the government guarantee have ensured that loan availability has held up well. Further improvement in debt markets and a return of a healthier securitisation market over time will ensure brokers not only have reliable access to loans but that greater competition reemerges,” she says.

Ms Claes says wholesale funding is important in enabling lenders to continue to support new loan creation, which is imperative to brokers.

Balance sheet lenders such as ING DIRECT use a combination of savings/deposits and short and long-term wholesale funding for their funding needs.

“In this way wholesale funding is an integral part of the supply of funds to support new business and growth. Brokers have more surety of loan creation as a result,” she says.

Luckily for ING DIRECT, investor appetite for the wholesale funding markets is beginning to reemerge, which will inevitably play into the hands of non-bank lenders and balance sheet lenders alike.