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Industry Sectors: Mortgages


Helen Monks
The modern mortgage market bears remarkably little resemblance to that of 1985, when borrowers were beholden to lenders offering plain vanilla products to what could sometimes feel like the chosen few.

Lenders operating mortgage allocation quotas put borrowers on the lesser side of a balance of power. The system, prevalent in the 1980s, meant that even big homebuilders struggled to secure mortgages for their buyers.

Typically, would-be borrowers might need a savings account with the building society to demonstrate their worthiness.

Things changed when new lenders came on the scene in the 1990s and TV advertising campaigns tried to lure disenfranchised borrowers. Nationwide divisional director (treasury)Jeremy Wood says: “Following the deregulation of banks and building societies, enormous competition was brought to the market, taking away the quota approach to borrowing and allowing lenders to be as aggressive as they wanted to be.”

Mortgageforce chief executive Rob Clifford says this sowed the seeds of the modern market. “No longer do most people suffer an inane loyalty to their lender and gone are the days when you felt you could not jump from lender to lender, “ he says.

Wood says these changes shifted the industry’s focus towards new customers and away from servicing existing ones. This led to the end of widespread loyalty among borrowers and the rise of remortgaging. Recently, lenders have had to concentrate more on retaining existing customers once any fixed-term deals have expired.

Increasingly sophisticated credit-scoring has boosted lenders’ willingness to lend, as have the more stable economic conditions enjoyed today. A key factor impacting on the cost of borrowing is the Bank of England base rate, which is hovering around 4.75 per cent, having been around 6-7 per cent in themid-1980s, notoriously rising to 15 per cent in the 1990s.

Nationwide chief economist Barry Naisbitt says: “Today’s environment marks a major change, as does the inflation backdrop, with inflation today of around 1.9 per cent compared with6-7 per cent in the 1980s. “ He also points to low unemployment as improving consumer confidence in borrowing. “In the 1980s,unemployment topped three million. The figures these days are around 1.5 million. How people feel about their prospects impacts on their willingness to take out a mortgage, “ he says.

But Naisbitt believes the bad old days of high interest rates, arrears, repossessions and negative equity in the 1990s will stay in the popular imagination. “I recall BBC’s Panorama reporting on a community where every property was in negative equity. Those kinds of stories really stay with people, “ he says.

Product innovation has also revolutionised the market in the past two decades. Bradford and Bingley head of mortgages David Bitner says: “The advent of flexible and current account mortgages, as well as credit-adverse products in the late1990s, were key moments in the development of the market. “The sector that has arguably matured most over the last two decades is sub-prime. Birmingham Midshires head of public relations Matthew Grayson says: “Arguably, sub-prime has undergone the most dramatic before and after transformation. Where it used to be a lending runt, it is now running hand in hand with mainstream lending.”

Grayson connects the development of sub-prime with a broader movement away from one-size-fits-all products. “We have gone from mass production to mass specialisation to include offset mortgages, layers of credit-adverse and sub-prime, plus the growth of buy-to-let products. “ He says this has been made possible by huge leaps in technology and greater sophistication in credit-scoring.

On the back of these changes, borrowers appear to have become more demanding. Grayson says: “Five to six years ago, people were prepared to wait as long as a month to sortout their mortgage. Now it is possible to complete within a few days. The change in expectations has been incredible.”

Although it can be argued that borrowers have been progressively better served by lenders and brokers over the past two decades, it is impossible to ignore the endowment debacle. Which? research claims that up to five million people may have been missold endowment mortgages, which were enormously popular in the 1980s and 1990s. The issue has led to a number of providers being fined by the FSA and consumer confidence being undermined.

Brokers accept there was misselling but point out that many policyholders managed to pay off their mortgage and have a lump sum left over. Clifford says: “Endowments were the right product for some customers. The key problems were that there were too many manufacturers of mediocre products and some sales forces were rather too enthusiastic.”

Arguably, the mishandling of endowments set the scene for full statutory regulation, which took effect from 2004.Grayson says: “Regulation proved that the industry could not be allowed to look after itself and has already paid dividends by driving out unscrupulous players.”

Stephen Knight – Executive chairman, GMAC-RFC
I was at Citibank in 1985 when details of a new publication were presented to me. I remember thinking it would open up exciting new channels of communication between lenders and intermediaries. I used Money Marketing to launch the UK’s first capped-rate mortgage and, in 1987, it broke the story ofthe launch of my company, Private Label. I am thus delighted to list my most distinctive market changes over the ensuing period as part of Money Marketing‘s anniversary celebrations.

  • Discounts and subsidies have come and will go again. Many involved in today’s market think that these are ever-present. They are not. They did not exist in 1985 and were introduced a few years later to prevent meltdown in the recession. They are slowly being phased out as borrowers remortgage and will not be significant to new business rates in five years time.

  • Niche has become mainstream. All viable niches end up pricing close to mainstream in the end, driven by competition. Look at self-cert and buy to let. Sub-prime will go the same way, so why investment banks are paying big premiums to acquire sub-prime lenders is not obvious.

  • Disintermediation has expanded consumer choice. Companies have launched which specialise in the separate disciplines of distribution, processing, administration, funding or any combination, allowing market entry to virtual and foreign lenders. This has made the market more liquid, flexible and innovative. Technology will drive this onwards. The immediate mortgage offer, downloaded at home and underpinned by online decisioning and automated valuations, is not a pipedream.

  • Full-blown statutory regulation is here and has impacted massively on the market. The FSA has done a good job, in my view, given the brief that the Government gave it. But are consumers getting £500m worth of proportionate benefit? Or does an oversupplied market ultimately provide more protection? There is no doubt that innovative and perhaps more esoteric product design is now hampered by second-guessing the FSA’s attitude and fitting designs on to a prescriptive key facts illustration. The market may not have expanded in the way it has done had we had statutory regulation in its current form in 1985._ Lenders naming and shaming each other for alleged malpractice in order to advance their own commercial cause is an unwelcome development. You shake up markets up by ruthlessly and persistently innovating, putting customers first and being judged by your actions. Naming and shaming is market-destructive and indulgent. We should all react against it. I wish Money Marketing another successful 20 years.

    John Malone – Managing director, Premier Mortgage Service
    The past 20 years have been an eventful period in the mortgage market. Landmarks include the highest and lowest interest rates; negative equity; highest property appreciation; paper to e-trading; building societies to big mortgage banks and marketing groups; product innovation including fixed-, capped- and discounted rates, sub-prime, flexible, let-to-buy, buy-to-let and equity-release mortgages; Miras, double Miras, no Miras; big back books to not so big back books; mortgage clubs and mortgage networks; mortgage regulation, qualifications, trade bodies, the CML and the AMI.

    Where does one start to describe this period in a brief way? Two products that I believe will have a big impact on our lives are buy-to-let and equity-release mortgages.

    Going back to those dark days of the early 1990s, with unemployment of five million-plus, the Government needed to kickstart the domestic property market. Marketing departments started to work on new products, not on repossessions. Tim Dawson and Tim Sturley of Mortgage Express (part of TSB at the time) with a few of us from TSB Property Services designed the let-to-buy mortgage.

    Skipton also had a proposition allowing borrowers to let and buy. Thereafter, the property market in 1997/98 began topick up and, in line with Government rental policy, the buy-to-let proposition became an important part of overall lending.

    Simultaneously, the shared appreciation mortgage from Bank of Scotland was seen as a possible solution for elderly owners to release cash for a variety of purposes. This arrangement seemed a viable proposition until Andy Kuipers, sales and marketing director of Northern Rock, pointed out the impact on borrowers if properties appreciated by more than 3 per cent compound annually. How right he was.

    His small team of Alison Thomson and Rachel Ramsden (now with Skipton) – with some assistance from me – created a lifetime product which was very much the template for other lenders to mirror. I believe these products provide a solution to many individuals’ problems and I am sure that within a few years they will mirror the percentage of business as the buy-to-let market but with much smaller loan sizes.

    Two bits of marketing creativity which I believe have assisted our innovative market were the introduction of the yellow label and the tickle (where a lender pays money to a third party). These have been some of the milestones in the mortgage market over the last 20 years – plus working with some excellent mortgage reporters within Money Marketing.

    Walter Avrili – Product director, John Charcol
    Twenty years ago, as Money Marketing launched to the financial adviser population of the UK, the mortgage market was itself in the midst of an unprecedented revolution.

    Companies were joining the mortgage market daily and different types of products were coming out with almost as much haste. Two particular products made their debut as Money Marketing pulled on its pink kit for the first time.

    The early 1980s saw the initial signs of the break up of the building society cartel, and as we approached 1985, a relaxation of general borrowing rules, a significant rise in mortgage lending and lower interest rates led to a plethora of new entrants into the UK mortgage market. The Mortgage Corporation, Canadian Imperial Bank of Commerce, San Paulo Bank, Sumitomo Bank and First Mortgage Securities all set up their operations in the early 1980s.

    However, it was not until 1985 that a mortgage lender, which had been one of the very first to look at the UK market as far back as the 1970s, produced the first real innovative range of products that had been unavailable elsewhere. These products were designed using treasury instruments, rather than creative lending criteria.

    Citibank’s Executive Collection, which sounds more like a range of clothing for power dressers, launched a series of products which included a highly competitive long-term fixed rate and a five-year cap-and-collar mortgage. Not only was this a success for Citibank, it helped further the intermediary market.

    With brokers just beginning to make real strides as a distribution channel, it was the ideal time for a lender to boost its lending portfolio with new products available through this channel. These products were aimed at the higher end of the market to the increasingly financially astute individual who understood the developments and realised how they could benefit from them.

    Self-certification also began its public life in the mid-1980s. Although this was used by many building societies in an unofficial capacity as early as the 1960s, it rose to prominence in the 1980s as more people chose a career change and went self-employed.

    Self-cert has obviously attracted a lot of bad publicity in the last few years as many people took advantage of the relaxed lending criteria. However, these products, in their true form and used for the right reason, are still a great invention.

    The market has proliferated in the last 20 years. Self-cert, foreign currency, buy-to-let and commercial mortgages are all readily available 20 years after the market took off.

    I look forward to the next 20 years and, in particular, arranging a mortgage on a property in space. I have the marketing team working on it at present. The best suggestion so far is the Galaxy mortgage although we may have a trademark battle on our hands.

    Mark Chilton – Chief executive, Purely Mortgages
    The 20-year anniversary of this august publication coincides with a sea change in the mortgage market which has benefited consumers and distributors significantly.

    Although things began to change in the early 1980s, the market was still supply-constrained, with the dominant building society sector operating as a cartel, often having queues of would-be borrowers, strong preferences for dealing with existing depositors and plain vanilla mortgages. From the customer’s perspective, there was no real product differentiation and it was merely a matter of getting access to a loan.

    Nobody paid for distribution so intermediaries relied on life and general insurance sales – and, of course, the dreaded endowment – to pay for their efforts. The catalyst for change was the importation of securitisation from the US in the late1980s. The pioneers were Citibank, Salomon Bros through The Mortgage Corporation and a trio of English players, First Mortgage Securities, Household Mortgage Corporation and National Home Loans. Only the last really exists today, reborn out of the 1990s credit crash as Paragon.

    These new lenders were looking to the securitisation markets to fund their loans. Demand in numbers for mortgages was always going to be relatively constrained but securitization turned the theory of supply and demand on its head. An industry which had been supply-constrained suddenly had an unlimited supply of funding. It was not long before traditional lenders locked on to this technique to enable them to compete more aggressively. Suddenly, you had a situation with effectively unlimited lending and limited demand, where customer and distribution were king.

    The growth of the true mortgage intermediary was one result of this, initiated by John Charcol’s relationship with Citibank. The second factor which was directly attributable to the securitisation market was the advent of derivative-based lending, led by Citibank and First Mortgage Securities. Short-term fixed rates became generally available using the burgeoning treasury management techniques, which themselves can be traced back to the more advanced approach that securitization demanded.

    With all this competition around, two further elements developed. They were the only two tools that lenders had to play with to attract customers – price and credit. Initially, the massively heightened competition led to new sales incentives in the form of discounts and the continuing proliferation of product options and fees. From a uniform market, we had generated an infusion-pricing market matched only in today’s world by mobile phones.

    This provided a second power jump for the intermediary, whose role switched from simply getting access to a mortgage to advising customers on the best deal.

    The second tool at lenders’ disposal was credit and, again powered by the securitisation markets, Kensington brought in the concept of the sub-prime mortgage. A full circle was established as a number of US players returned to compete in this more margin-attractive sector. It is interesting to note that most UK sub-prime players have now been eaten up by US banks.

    At the root of this change lies securitisation and those brave innovators of the late 1980s. They always say the pioneers take the pain and the settlers get the gain. So we should ponder the next move as some of the early pioneers return to the market.

    Michael Bolton – Managing director, BM Solutions and Halifax Intermediaries
    I have been in the mortgage industry for 17 years – almost as long as Money Marketing – and the main lesson I have learned in that time is just how cyclical the market is.

    Since starting as a broker with John Charcol in 1988, I have lived through two property booms and I am now entering my second downturn. My business mantra is that there is no substitute for experience and those of us who have been here before are best placed to survive the current slowdown.

    It may come as more of a shock to those who have been working in the industry for less than five years. They have never experienced a downturn before and may have started to believe that the market would simply drive relentlessly upwards.

    The good news is that the industry appears to have learned its lesson from the crash of the early 1990s. With one or two exceptions, lenders are shying away from the type of high-risk offerings we saw in the late 1980s, such as the deferred-interest mortgage.

    Homeowners who saw the damage caused by negative equity have also learned the same lesson. This means that the industry is going into this downturn in much better shape than the previous one.

    I wish I could say the same of the unsecured lending sector. Its aggressive selling of personal loans and credit cards could land customers with serious debt problems. It remains to be seen whether the FSA believes the sector has been actively irresponsible and whether it will punish the offenders.

    I just hope that we are not all undermined by the reckless activities of the unsecured lenders.

    The downturn is already underway. The credit quality of lending started to deteriorate 12 months ago, with Barclays, HBOS, HSBC and Royal Bank of Scotland all reporting an increase in bad debts in that time.

    The number of mortgage transactions has fallen by 20 percent but the good news is that property prices appear stable. That is down to two key factors – low unemployment and low interest rates. In the early 1990s, we did not have that cushion.

    This means we should avoid a serious property slump. I expect prices to stay flat for the next two years. They may drop by, say, 5 per cent, in some areas and rise by 5 per cent in others but the overall market should be stable although we can expect fewer re-mortgages and fewer house moves.

    Historically, the rate of arrears and repossessions is low and so it should be at the end of a bull market lasting nearly10 years.

    I am constantly amazed by mortgage industry innovation. A decade ago, buy to let barely existed but now I cannot go to a dinner party without somebody discussing the subject or its glamorous foreign cousin, known as jet to let.

    This marks a revolution in the way that people live their lives. It is now commonplace for people to own a second home and to use property as part of their retirement strategy. Previously, equities were the first port of call for retirement planning but too many people have now lost faith in stocks and shares. Bricks and mortar feel like a much better long-term investment strategy. Pricing is clearer, fees transparent and there are no hidden charges. You can physically touch your investment, which makes it so much easier to understand.

    The wider financial services industry, which must learn to engage consumers in equity products once again, could learn a lot from examining the property market.

    We are now on the cusp of a revolution which will draw a direct link between property and pensions. New rules allowing people to hold residential property inside a self-invested personal pension could stimulate the market although I find it a delicious irony that a supposedly socialist Government is offering wealthy investors 40 per cent tax relief to invest in property.

    The sub-prime sector has also seen tremendous innovation in the past five years. This is obviously great news for customers, who are much better treated than before, but the industry is not perfect and I still see the sort of practices that you would not expect in a regulated market.

    Full disclosure of fees does not always happen. Some lenders still offer mortgages to borrowers who clearly cannot afford to pay their existing home loan. Lenders who treat customers this way are being irresponsible and foolish. I just hope the FSA will get round to rooting out unacceptable practices and insist that lenders treat customers fairly.

    The FSA should also ban cold-calling in the sub-prime sector. This is completely inappropriate, given that we are dealing with the most vulnerable people in society, who need access to high-quality independent financial advice.

    I am delighted that mortgage sales advice has at long last been regulated. After all, this is the most important financial transaction that most people will make.

    But I do have one proviso. The regulator must understand that a mortgage decision is made jointly by the intermediary and their client. I am a firm believer in individual responsibility. Consumers must accept that their decisions involve an element of risk. The endowment mis-selling scandal, for example, would never have happened if equity markets had not tumbled.

    This means that consumers need better financial education. I also find it bizarre that the national curriculum still does not have a place for basic financial planning, such as how to calculate the monthly repayment on a loan. This would equip future generations to make more rational financial choices.

    I have enjoyed working in this buzzing industry for 17years. The mortgage market is remarkably small and I see many of the same guys who were around 10 or 20 years ago. That must be a good thing and explains why the industry is behaving pretty sensibly nowadays. It also stands us in good stead for future movements in the property market cycle.

    Paul Howard – Associate director, Portman Building Society
    The mortgage market of 1985 was a great place to be if you were a lender but not great if you were a new mortgage applicant. Even worse, it was positively hostile if you were a mortgage intermediary.

    Twenty years ago, the market was controlled by the building societies – hundreds of them – led by Halifax, Abbey National and other familiar names such as Leeds Permanent and National and Provincial. The societies owned the market, having beaten off occasional forays made by the big four banks – Midland, Barclays, NatWest and Lloyds.

    But there was a new breed of lender entering the market -the centralised lender. These guys, who were generally US owned, showed a remarkable appetite to lend at a time when the societies had limited funds to lend.

    In 1985, a joke went: “A man went into the local building society branch and asked: `How do I stand for a mortgage?’ The manager replied: `You don’t, you kneel.’ “ That is exactly how it was.

    I was a manager at the London and South of England Building Society – a snappy title if ever I heard one. Each month, I would receive my quota of mortgage lending – not a target, as we receive now. I would already have a waiting list of applicants to whom I had promised funds out of the quota and to whom I would have given a letter of intent. These were not offers but many people exchanged contracts on the strength of them.

    In addition, I may also have promised funds to the client of an insurance broker, for which I could look forward to receiving half the commission he earned from the endowment policy he would sell. I would also add an extra 0.5 per cent to the interest rate because it was an endowment mortgage, as most were in those days. Oh, and by the way, there were no such things as procuration fees.

    The lending decision was made in the branch by the same people whose job it was to “sell “ the mortgages.

    The recession changed all that, for those lenders which were still left in business.

    The mortgage products were simple to learn – standard variable rate, endowment or repayment. Along with the extra charge for endowment mortgages, we would also charge extra if it was a pre-1919 building, leasehold or anything else fractionally outside the norm. Self-certification was not due to make an appearance until 1987, when National Home Loans and The Mortgage Corporation collided with the market. Buy to let was still a far-off planet while sub-prime was the kind of stuff that brokers avoided like the plague because they could not place it, let alone earn a fortune from it.

    We also had a nice little earner called top-up mortgages. Societies would frequently limit their lending to an applicant simply to make their quota go farther – nothing to do with income or loan-to-value restrictions. Indeed, loans over a certain size had to be reported separately in the accounts and were known as special advances. In those instances, you could go to an insurance company (I used NPI) which would lend the additional amount required as a top-up loan. The main loan had to be covered by one of its with-profits endowment policies (on which I earned commission) while the top-up loan had to be covered by one of its non-profit endowment policies (on which I earned more commission).

    The people who controlled the mortgage market were very different back in 1985. The life insurance companies were the leviathans of the industry which built very successful local mortgage clubs known as the mortgage desk. Most branches of most companies had them – it was the thing to do. The idea, of course, was that if the broker used their mortgage desk, he would be obliged to recommend their endowment policy to his client.

    While the mortgage desks had relationships with a number of principal societies, they were also instrumental in aiding the market entry of the first centralised lenders such as Citibank, Chemical Bank and Bank America. These new lenders offered great deals which could only be accessed via the mortgage desk. As well as distributing, they also undertook the packaging of the applications they dealt with, thereby carrying out a large portion of the processing on behalf of the lender, at no charge.

    I fondly recall transacting very significant volumes of business with the likes of Legal & General in Guildford, Scottish Amicable in Croydon, Scottish Life in Romford and, the daddy of them all, Scottish Provident in Reading. We had life inspectors in those days who were basically mortgage traders.

    The mortgage market in 1985, of course, preceded regulation of the financial services industry, so sales methods and techniques were a little different to what they are today. Apart from the mortgage desks, direct sales forces were also big players and directed huge volumes of business to the lenders. These introduced the first of the mortgage panels and this model still lives on quite happily today. Third-party packagers did not exist and it would be some time before evolution spawned this particular form of distributor with the likes of Private Label and The Mortgage Operation.

    The mortgage market, and the financial services industry, has changed dramatically over the past 20 years – in fact, it has come full circle.

    Gone are the days of fat margins and letters of intent. Instead, the customer calls the shots, with competitors lining up to compete for his business by offering the lowest margin possible. “How do I stand for a mortgage? “ “Very nicely, sir. “

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