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Sub-prime signals

Tanya Powley on the FSA’s concerns over a sub-prime downturn.

The FSA has reinforced its concern over the potential of a US-style sub-prime downturn with an increasing number of warnings to lenders over the last two months.

Speaking at the Council of Mortgage Lenders’ annual lunch and at the BSA annual conference, FSA managing director of retail market Clive Briault warned that all lenders should ensure they are ready for a possible market downturn.

With the FSA set to publish the findings of its investigation into the sub-prime market at the end of June, it is clear that the sub-prime market is a particular area of concern.

However, Hamptons Mortgages technical director Jonathan Cornell says the FSA’s primary control tool is to make speeches.

He says: “If the FSA started to tell lenders who they should be lending to, then there would be a huge uproar but by doing speeches they are trying to influence lenders active in this sector.”

Cornell says the regulator is obviously trying to give a very clear message, noting that it is certainly an area that makes them nervous.

Accord managing director Linda Will says the FSA is concerned that there has been a loosening of criteria in the sub-prime market.

She says: “Although there has been a sheer volume of competition entering the market, the criteria still remains significantly tighter than it was in the US.”

Cornell says the vast majority of sub-prime lenders will have people who have minor county court judgements but there are always a few firms who take people who have very poor credit records.

“Sub-prime lenders need to be very careful with these clients but there is so much demand in the housing market that I do not think there is going to be a problem,” she says.

Will says: “We also need to remember that there is also a very different economic situation here compared with the US. I do not buy into the worry that the UK market is going to follow the US in its sub-prime downturn. Yes it could happen but there is nothing in our economic horizon to suggest that it will go the same way.”

But Briault warned that the recent favourable economic conditions in the UK have enabled and encouraged many consumers to take on additional debt, with much of it secured against property.

He said many consumers will be “unprepared” and “ill-equipped” if the market suffers a downturn, especially considering that sub-prime mortgage arrears are currently 20 times the rate of arrears on prime mortgages.

He said: “The sub-prime arrears also raised some important questions about the extent to which lenders have taken affordability into account when undertaking this lending.

“Our rules require both lenders and advisers to make an assessment of a borrower’s ability to afford the mortgage so high default rates should be prompting lenders to review their affordability models and to understand the root cause of high arrears.”

But Cornell says 20 times higher arrears does not fill him with fear. He says: “Arrears are generally low across the board right now. They are not at scary levels.”

Homeowners Mortgages chief executive Mark Chilton says at the end of the day, everybody has got to take note of the FSA. He says: “Clearly, the FSA is concerned about this area. A month ago, the industry thought interest rates were plateauing but now it looks like there will be several more rises this year. If it does keep increasing it will put pressure on high loan to value and heavy adverse stuff. This business will start to look a lot riskier.”

Chilton believes it is wrong to scaremonger but that the FSA is definitely right to police the sub-prime market. He says: “The proof will be if some lenders start to curtail some of their underwriting policies. The risk with high LTV is that all it is relying on is the value of the property.”

Cornell thinks that on the whole, the FSA will be quite pleased with the sub-prime market. “A lot of firms have been going in so competition is fierce at the moment. Sub-prime borrowers have never had it so good. There is more competition and as a result, lower rates,” he says.

He says the sub-prime market is also a lot more transparent and better value.

Will says: “We were the recipients of a sub-prime FSA visit a couple of weeks ago and the feedback we have had is that they are very happy with what we are doing. I have got no sense that the whole thing is going haywire. With its recent warnings, the FSA is making sure that lenders are not loosening criteria to a stupid extent.”

Industry commentators say they will be interested to see what the results of the FSA’s investigation will be but do not expect any huge problems.

BM Solutions spokesman Matt Grayson says: “We have got four years of sub-prime on our books now and everything looks very good but, of course, there is no room for complacency. Undoubtedly, there will be some issues emerging but nothing too major.”

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