Accountancy firm KPMG has warned in a recent report that small building societies face a fight for survival when the full costs of mortgage regulation begin to bite. The BSA disputes the claim, saying that mutuals have a history of beating the odds and will find a way to prosper. Do you think they can survive post-N3?
Charlesworth: I really cannot see why this will hit the small lenders any harder than the large lenders. I do not think the requirements for regulation will be onerous and, to a degree, the cost will be linked to the size of distribution anyway so smaller lenders will incur smaller costs. As the market changes, we are bound to see a degree of movement and therefore there may be some consolidation among smaller lenders to enable them to remain in a competitive market.
Washington: KPMG is a well respected major business consultancy so you must take their findings seriously. Recent history shows us that margins are declining as costs of fund management are rising so there must be a limit to how long smaller building societies can remain viable. Smaller societies could band together and create larger compliance cooperatives to spread costs and take advantage of the economies of scale.
But it is possible that adding yet another layer of administration may create as many problems as it solves. In addition to the physical act of N3 compliance, lenders must also meet the cost of staff training and competence together with extra burdens such as the requirements of the GISC. It could be argued that borrowers and savers would enjoy a better choice of products and greater stability if smaller societies merged with bigger ones but that would be to ignore the value of local service that the smaller societies offer at the moment.
Richardson: Smaller societies will survive after N3 but probably just not in the way that they do today. They will have to evolve and find their new competitive advantage in a market that is getting tougher all of the time. We will see the more innovative building societies create important niches for themselves and will prosper accordingly.
Do you agree with Imla's prediction that the mortgage code could cease to exist if brokers fail to secure ownership of it before N3?
Charlesworth: I do not think the mortgage code is under threat. To date, it has brought a degree of structure to the broker market and post-N3 the lenders will definitely want this to continue.
When the requirement to have the Cemap qualification comes into force at the end of next year, the mortgage code will have a role of even greater importance to play working alongside the FSA's regulation. Lenders know the importance of such a code and therefore I believe they will endeavour to ensure it still plays a key role in future of this market.
Washington: The Imla comment was in support of a single, credible trade association for brokers – which I believe would be a good thing. However, what stands at the core of the debate over the continued existence of the code is whether advice should be covered by the new regulatory regime.
Currently, the code regulates advice whereas the FSA proposal regulates information so there is a complementary role for both. Lenders strongly supported the regulation of advice so they should logically support the retention of the code to remain true to themselves.
However, this is far from lenders being willing to take on the burden of regulating intermediaries and the advice they give. The burning question is who pays? Lenders, even mutuals, are in business to make a profit. If they are forced to take ever diminishing returns, some may be edged out of the market and borrowers will lose choice as a result.
Richardson: No. The mortgage code sets out the behaviour required from a lender and intermediary towards their customer. Although in the future we will be regulated by the FSA and will tell the customer this, the mortgage code will remain and will continue to be a useful document. There is a feeling that the new regime will make the code redundant but I do not entirely agree.
What impact will the Financial Ombudsman Service's ruling that Halifax should have allowed existing borrowers access to its lowest variable rate have on lenders with dual rate policies?
Charlesworth: I think the major lenders operating a dual rate policy will need to reconsider their pricing. The issue lies around defining a standard variable rate. This can be done to reflect risk profile, LTV or even attachment to a discount. The clearest way to do this is to link the rate to the bank base rate.
Lenders have fallen foul of this with their existing customers because historically they only offered one rate and reference to this rate was not specific. It further confuses the customer by referring to it as standard variable rate, how can it be standard if more than one is available? The OFT did raise the whole issue of definition of SVR and creating mortgage conditions to prevent lenders from offering a variety of SVRs depending on customer circumstance.
Specifically, the concern was that, with no definition, existing customers tied in with redemption penalties could be further penalised by having to pay a higher variable rate.
Washington: Let us not forget that the FOS has simply ruled on the case of one borrower. While the Halifax and other lenders operating dual SVRs may well be calculating the impact that this decision may eventually have, the ombudsman has not, and cannot, give a blanket ruling for lenders to compensate customers – or even put them all on to the lower SVR. The financial impact is controlled purely by the commercial decisions made by the individual lenders.
Richardson: The writing was on the wall for this one as soon as it was announced. Dual rate pricing is an unwan-ted extra layer of complexity in the mortgage market. The realisation from the Halifax et al that future success is not all about acquiring new business (at the expense of existing customers) but keeping existing business on the books has led to a two-tiered strategy that has made groups of disgruntled customers complain to the ombudsman, and rightly so.
Customers should be treated fairly and in this instance they clearly have not. If, as is anticipated, the decision is upheld, then I expect we will see restructuring (and maybe the end) of front-end mortgage pricing with a move in the medium to long term towards lower standard variable rates for all.
The implications of the FOS ruling are far reaching and could end up costing some lenders millions of pounds in compensation. In the short term, I think we will just see the withdrawal of the lower variable rates on offer while the lenders involved regroup.
Do you agree with the ruling? Or do you think these lenders could end up paying the price for trying to give their existing borrowers a better deal?
Charlesworth: The ruling was made based on the legal contracts and in that sense I do agree. There will be a price to pay here for the Halifax and possibly other lenders. Without even trying to calculate possible compensation costs, yet again the financial services industry has ended up damaging its own reputation.
In the future, lenders will need to be more specific on how they define variable rates, as mentioned in the previous question, I think lenders should be able to offer different variable rates for different specific product/risk types. Ideally these should be linked to a common reference point , such as bank base rate.
Washington: It is not really a moral issue that anyone needs to take a stand on. The ruling was made purely on the basis of the wording of the borrower's mortgage offer – not on a judgment about whether the Halifax was acting in a fair and reasonable manner (a jurisdiction that the FOS does not yet possess).
If there is ultimately a price to be paid, then it will, as always, be passed on to borrowers in one way or another. Market forces, however, will ensure that product pricing remains competitive. It is a decision for individual lenders.
With regard to lenders giving existing borrowers a better deal' Mr Wright has app- arently been a Halifax borrower for 31 years and he certainly did not think he was getting a better deal.
Richardson: Yes. We have always believed that offering one good value deal to all customers is the fairest and most sustainable option in the long term and we are being proved right. By allowing only those on SVR mortgages to move to a lower rate they created an unfair two-tiered system in which they were, in effect, changing the terms and conditions in the mortgage offer for some but not others.
If the Halifax had made the new lower rates automatically available to all their customers then I do not think this would have blown up in the way it has. In the future, the mortgage industry will have to focus on more than just price and compete increasingly on total cost of the mortgage, customer service and product features.
IFonline is setting up a data system which it claims will ease the compliance burden on lenders when mortgage regulation hits next year. Its success could hinge on the willingness of rival trading platforms to populate their systems with the information, which lenders will have full control over. Can you see Mortgage Brain et al paying IFonline for use of the system?
Charlesworth: After recent announcements relating to Ifonline, its long term future is subject to some speculation. Having said this, it is impractical for all lenders to support a variety of sourcing systems with validated information.
I think sourcing systems will need to take their data electronically from independent research companies supported by the lenders. The first obvious contender is The Research Department which has been awarded the contract by the FSA to provide data for the comparative tables. Lenders will be obliged to provide The Research Department with validated data.
Washington: Sharing compliance-checked product information via a single source seems a very good idea in theory. After all, is this not what transparency is all about – making it impossible for product details to be hidden from customers, or manipulated in any way? It would certainly save lenders a lot of resources in multiple checking of information on sourcing databases.
Mortgage Brain is itself seeking to establish a common trading platform (which will need to be CP98-compliant) so lenders will be making their minds up about which system to support. It is a bit of a chicken and egg situation – lenders need to be confident about the compliance of any common platform but how can they gain confidence unless they try them?
Richardson: If the system is robust and does what they say it will do (and there is no reason for us to believe otherwise) then I think it is an important development. It would undoubtedly ease the burden of compliance. As it stands, lenders will have to check product details on a platform-by-platform basis.
This means the need to employ staff to monitor and update data on different types of mortgage-sourcing software. Whether or not rival-trading platforms will pay to use it is another matter entirely and a question that only they can answer.It looks like a good initiative though.
Mark Charlesworth, managing director, The Mortgage Operation
Jim Washington, director of credit,Verso