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Back, but not by popular demand

The securitisation market is slowly being rehabilitated as a reliable source of funds for mortgage lending but as many investors had their fingers burnt once before, will there be sufficient appetite for it? Rachael Adams reports

There are many reasons for the lack of funds available for mortgage lending in the last three years. The implosion of the mortgage market saw many lenders sharply reduce their appetite for risk and the need to repair balance sheets and repay the Government’s special liquidity scheme have all played a part. But another significant contribution has been the lack of a ready market for mortgage securitisation, severely curtailing the availability of funding available to lenders.

The securitisation market has been recovering and, once again is starting to provide a more reliable source of funds.

Paragon finance director Nicholas Keen says: “The securitisation market has been going through a slow but consistent rehabilitation since the end of 2009. It did pretty well in terms of new issuers in 2010 and the size of issuances has been moving into big deal country, with RBS’s £4.7bn offering last year.

“We have also seen a wide-ning in asset types away from residential mortgage-backed to commercial as well as sub-prime backed deals from Kensington and Credit Suisse.”

In April, Skipton Building Society successfully re-entered the securitisation market with a £350m offering and Lloyds Banking Group announced this month its intention to launch a deal worth £3.3bn.

Keen says industry estimates predict total issuance for 2011 will be up by 60-70 per cent on last year.

The re-introduction of highstreet names can only help boost confidence, says Precise Mortgages managing director Alan Cleary, and this could lead to a boost in demand for non-conforming lending.

He says: “You have got to start somewhere. Blue-chip players doing prime AAA deals will make investors more confident about the state of play and they will look at non-conforming or buy to let.”

Private Finance director Melanie Bien agrees investor confidence is the key to increasing the number of securitisation deals in the UK.

She says: “A lot of investors had their fingers burnt in the crisis because there was a lack of clarity about what assets made up the securities. If that lesson has been learnt, securitisation could become as prominent as it was then.”

The shape of securitisation in 2011 is very different from how it looked in 2007.

Cleary says: “The market virtually shut down because of the risk passed on by the US.”

However, the investor base has changed, according to Keen. “The investors who came a cropper before the crisis are out of business because they borrowed too heavily.”

As a result, the potential market for mortgage securitisations is much smaller. Securitisation also means different things to lenders now than it did four or five years ago.

Keen believes the ability to capitalise on the lower capital adequacy requirements for securitised deals, and so be able to lend more, no longer applies.

He says: “The outsourcing of risk and capital adequacy relief that were so appealing are less important these days.

“Companies used the securities market as arbitrage. They cannot do that now because the FSA assesses lenders for the full capital amount in securities deals. The same goes for the risk transfer point. Lenders cannot wash their hands of mortgages completely because the EU requires all issuers of securities to hold at least 5 per cent of the issue.”

Although these benefits are no longer available to lenders, securitisation is still a good source of new funds.

“For many lenders, securitisation has to be attractive because it increases their funding,” says Bien.

Cleary agrees and says securitisation is welcomed by the banks who have vast amounts to repay the Government under the special liquidity scheme by the end of the year.
However, that is not to say securitisation will single-handedly get the housing market moving again. Other sources of funding, covered bonds, for example, are available as options to lenders looking to raise funds to lend.

Keen says retail deposits will always be the major player but that covered bonds are a popular alternative.

“Raising deposits costs up to 3.5 per cent, which is 2.5 per cent over Libor. Covered bonds are being issued by Lloyds at 0.75 per cent over Libor, while securities stand at 1.5 per cent.”

The fact the covered bonds market is back at pre-crisis levels while the securitisation market has only managed to regain one-fifth is testament to this. However, the covered bonds market does have limits.

Cleary says: “Securitisation will prove more popular than covered bonds, which are more of a European-type play. Only a few companies can issue them and if secur-itisation is coming back, why would you bother? Securit-isation will be the first choice after retail deposits.”

Keen agrees that covered bonds will struggle. He says: “The capacity to do more issuance without raising prices significantly is limited, so securitisation is second on the list after this happens.”

Keen believes the increase in securitisation is part of the natural recovery of the housing market, saying that once the economy recovers and capital adequacy ratios are stabilised, bank lending will rise.

However, the fact that the industry has seen the highest level of securities issuance since the early 2000s suggests the question of funding is less pressing than it was this time last year.

Cleary feels that rather than a lack of funding or lender appetite, it is now a lack of consumer demand that is keeping lending levels depressed.

He says: “We know the funding problem is not as bad as it was because those who borrowed under the special liquidity scheme are paying it back early, so there is clearly funding available.

“Consumer demand is the real problem. The mortgage market went through a funding drought. There was less supply and more demand and the demand eventually went away because people gave up. Supply has now come back and demand needs to catch up.”

However, even if consumer demand does pick up, securitisation will not necessarily have a smooth ride to recovery, with the ongoing eurozone debt crisis the biggest obstacle in the way.

Bien says: “While everyone is focusing on phone hacking, what is going on in Europe is going to have a far greater effect on us.”

Cleary agrees and says: “The biggest threat is the threat to the eurozone. A complete macro event like that has the ability to shake investors. We will just have to wait and see what happens to securitisation.”

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