Securitisation should give the banking industry a kick in the pants and investors a new toy, writes Donna Block
Looking for a new home loan? Okay, “round up the usual suspects”. Only a month ago most consumers looking for a home loan would have taken a similar tact. The major banks all have comparable rates, so what did it matter?
But with the introduction to the market of South African Home Loans Trust, the discount home loan specialist, this is all about to change.
Not only is South African Home Loans Trust offering bonds at two to four percentage points below the rates offered by most banks, but it is using a financing tool – asset securitisation – that could revolutionise not only the home loan market, but also the credit markets in South Africa.
Asset securitisation is the selling of securities backed by pools or groups of loans and other assets.
Sound confusing? It’s not. A good example is the residential mortgage market in the United States. Most residential mortgages – approximately 80% – are now securitised; that is, individual mortgage loans are pooled together and securities are issued against these pools.
Individuals and institutions purchase the securities and are paid interest or interest and principal until the pool is paid off or resupplied with new loans. Simply, the loans are grouped together and the cash that flows from people repaying their bonds pays off the interest and principal on the securities.
But more interesting is the fact that mortgages are not the only type of loan that can be pooled in this manner. In the US, United Kingdom and Australia, increasing numbers of consumer loans, commercial real estate loans, small-business loans, credit card receivables and lease receivables are now being securitised.
This trend has important consequences for banks and other financing intermediaries as competition heats up in the loan origination markets.
So it is no wonder that following hot on the heels of the announcement that the South African Home Loans Trust is to securitise mortgage bonds, Paradigm Interactive Media, one of the Johannesburg Stock Exchange’s fastest growing media, information technology (IT) and financial services groups, announced it is now in the process of securitising its satellite television rental book.
In a press release issued by Paradigm last week, managing director Mike Forster confirmed that R60-million which forms part of a first tranche of R100-million has already been paid out and that the balance of R40-million is expected within 30 days.
Forster said that securitisation is a cost- effective way of securing funding for the group’s bundled satellite rental product line marketed by DSat and total PC solution arm, Paradigm Direct. “The funds will ensure that we can offer our clients an uninterrupted upgrade path, providing them with access to the latest technological advances in the satellite and IT arenas. Securitisation will ensure a continuous and strong cash flow for Paradigm,” he said.
Securitisation is not only causing excitement in the consumer credit markets, but is providing the investment community with an innovative product.
Although new to South Africa, the product is well known to investors internationally and mortgage-backed securities are actively traded in a secondary market on Wall Street. The estimated value of this market in the US alone is in excess of $2-trillion.
Mortgage-backed securities will be available in South Africa for purchase by institutional investors by the end of the first quarter.
“Given its attractive yield, strong credit enhancement and triple “A” rating, we expect strong investor appetite for the product,” says Sean Melnick, CEO of Peregrine Holdings Limited, the listed financial service provider responsible for placing the paper into the money market.
The ability of these programmes to be successful will come to light if they are able to attract investors. However, at this point that doesn’t seem to be a problem. Recent research shows that a securitised product is an attractive vehicle for diversifying existing investment portfolios and there would be strong institutional investor support for the mortgage-based securities domestically and abroad.
More importantly, it also gives the banking industry a kick in the pants. Cheaper home loans mean lower profit margins for the banks as this sector has always been a big moneymaker. No doubt the banks are not going to take this lying down.
Banks are going to keep an eagle eye on how the securitised loan portfolios of these companies progress and may respond by offering lower interest rates or new and innovative products. On the other hand, they may also take a stab at the securitised market. At least two banks and possibly a third are known to be investigating the issue.
For consumers it’s a win-win situation. However, there are some issues of securitised bonds that should be addressed: specifically, who owns the debt? What are the risks to you as a bondholder? Can you lose your home?
Simon Stockley, CEO of South African Home Loans Trust, says that as long as you make your monthly repayments, your bond is a contract which can’t be broken. Moreover, because asset securitisation is different from traditional bank financing, the investor relies on the cash flows generated from the specific assets being financed, rather than the operating cash flows of the company.
However, there is no free lunch. As yet there is no regulatory body that oversees this type of security so investors must rely on rating agencies like Fitch IBCA to make assessments on the quality and risk factors in specific portfolios. According to Mike Berry, managing director of Fitch IBCA, “with a rated security investors have the ability to know what type of risk they’re buying into. Depending on the rating, they will have a good idea if their capital and interest will be paid on a timely basis.”
It will be interesting to see whether securitised bonds or securitised assets can survive the muscle of the big banks. Nonetheless, Paul Glass, executive director of Paradigm, claims their “business was growing so fast they were quickly using up their banking facilities”. Paradigm had to be more forward thinking and securitisation was the answer. He added, “Necessity is the mother of invention and it will take people like South African Home Loans and ourselves to show the public it can be done.”