Redefining standards

25 October 2010 | By Robert Thickett, Christine Toner

Non-standard, specialist, complex prime - there are many names for it but the bottom line is that it’s lending that caters for the growing number of borrowers who don’t fit the criteria of main-stream lenders.

Before the credit crunch mainstream lenders would accept borr-owers with a few blips but they are no longer so relaxed. Post-2008, as funding collapsed and credit criteria of lenders tightened many became picky about the borrowers they dealt with.

New entrants such as Aldermore offer a broader range of products designed for creditworthy borrowers who have been rejected by lenders’ auto-mated credit scoring systems.

But the volume of lending in the non-standard sector remains low and with the Mortgage Market Review set to hit next year, could this make life even harder? To debate the issues facing the non-standard sector Mortgage Strategy, in association with Alder-more, invited a host of industry luminaries to debate the challenges and opportunities facing this sector.

 

WHAT DO YOU MEAN BY NON-STANDARD AND COMPLEX PRIME - IS IT SUB-PRIME BY A DIFFERENT NAME?

David Hollingworth: The definitions have completely changed so non-standard is now someone who in the past would have got a main-stream mortgage.

IS THERE A MARKET FOR NON-STANDARD BORROWERS?

Peter Williams: The number of non-standard borrowers is growing, given the standardisation of the mainstream market, and product supply is falling so there is a tension about under-served borrowers.

Colin Snowdon: Since the credit crunch hit diversity has gone out of the market. Specialist lenders have gone and high street lenders are taking a different view due to funding reasons.

There’s a huge mar-ket in terms of demand but it’s unsatisfied.

You’ve got a lot of credit-worthy borrowers deserving a mortgage who just can’t get one.

John Malone: If a percentage of mortgage business is being fostered by branch networks then I don’t think they’ve got the skills and the abilities to handle what I call a more complex marketplace.

Thousands of people will struggle to get what we would call a straight-forward mortgage and in today’s complex marketplace they’re going to find it difficult.

IS CREDIT SCORING A CREDIT ASSESSMENT TOOL OR A MECHANISM FOR REGULATING BUSINESS VOLUMES?

Williams: It’s both. There has been a lot of emphasis on regulating business so it’s an easy way of controlling volume. Credit scoring is the tool that controls what goes through your pipeline, which con-trols your capital requirements. So it has huge implications and is not just a credit score.

Malone: But to be fair Peter, we had that back in the 1970s and 1980s. There was mortgage rationing then. Lenders were doing nothing different - it’s more sophisticated now but they’re doing more or less the same thing.

Sally Laker: The thing about credit scoring is that lenders can tweak it daily and you won’t know that until a broker puts through two identical cases within an hour of each other.

So it’s a way of doing it without us being able to kick up a fuss and prove it.

DOES THIS IMPACT THE LENDERS BROKERS USE?

Hollingworth: The issue is that you get a level of uncertainty.

If you get to the point where, for example, a lender is excluding first-time buyers from its higher LTV business, which has certainly happened, brokers will stop using it.

And it’s not only for borrowers with a spec-ific credit profile.

Brokers lose faith because the credit scoring at cer-tain profiles is so strict they’re getting one decline after another. So they start using someone that’s actually agreeing cases, so it can work against lenders. I’d say some lenders have had to tweak back their credit scores as a result of this.

Williams: But does that bother lenders because they’ve got other bus-iness elsewhere?

Hollingworth: They were losing the lower risk, low LTV business too so the lenders relaxed the credit scoring because brokers were just saying that this is pointless.

Williams: This reflects the internal tension in the lender between who’s doing the sales and who’s doing the credit risk assessment, and the dominance of credit risk assessment at the moment.

Doug Hall: From a mortgage intermediary point of view advice isn’t just based on the cheapest product - it includes service as well. And if prime lenders are declining credit scores are brokers going to keep going down that route trying to knock a square peg into a round hole? Or do they go for the square peg square hole opportunity? If your client needs a mortgage offer and the rate is 3.99% with a specialist lender as opposed to 3.59% with a prime lender, where do you go?

Malone: That’s a big issue that we as a group have to constantly dis-cuss with the Financial Services Authority.

The regulator is still fix-ated on the situation where if a borrower is eligible for a product in the top two or three in terms of rate, it wants to know why the inter-mediary selected the one that is in fifth, sixth and seventh place.

On Monday you can get a mortgage through but by Wednesday the len-der has tweaked it and the broker has to justify this in their selection process.

That’s a big issue the FSA has to understand.

Kevin Duffy: And there are unintended consequences of that.

Good BDMs are telling brokers not to put a case forward on a particular day, say, Tuesday, and wait until the following Monday or vice versa.

We know anecdotally that this is happening.

So BDMs are still helping brokers to get round the system?

Duffy: Absolutely. I think good BDMs are working even more closely now with their regional broker panels than they might have been doing in the good times because they are having to work together to achieve targets.

I’m not saying it’s a good or a bad thing but it’s cer-tainly a feature of the market.

Duffy: There are so many trial and error mechanisms that brokers solve the conundrum one way or the other.

ARE THOSE TRIAL AND ERROR THINGS GETTING BROKERS KICKED OFF PANELS?

Duffy: No I don’t think so. I would even venture that lenders are aware of it - they’re not stupid. It’s not some-thing that’s happening on a huge scale, but there are many anec- dotal cases where local lender representatives work constructively with brokers to get deals through.

ARE THE LONG-TERM PROSPECTS OF THE SPECIALIST LENDING SECTOR LOOKING BETTER?

Williams: One of the issues right now is the absence of competition.

There are few lenders active in the market.

The arrival of new ent-rants in the 1990s pushed the envelope quite significantly and that’s absent at the moment.

You have to ask yourself when that will return.

Snowdon: Don’t forget the diversity we saw last time in supply of fun-ding from the specialist sector largely came from non-banks and while there were a lot of things about non-banks that turned out to be undesirable it’s going to difficult for non-banks to get into the market and compete the way they used to.

Duffy: The regulator is unfairly prejudiced against non-banks.

It’s almost as if mainstream lenders were guiltless in what happened.

They weren’t. The proportionality between what the specialist len-ders lent is a drop in the ocean compared with what some main-stream lenders did.

Snowdon: The problem with the super-tanker lenders was that they took what were designed to be niche products and made them main-stream and just believed they could handle them in exactly the same way as they could a mainstream proposition

WILL THE NUMBER OF CONSUMERS CLASSIFIED AS NON-STANDARD GET MUCH BIGGER AS A RESULT OF THE MMR?

Williams: The Council of Mortgage Lenders’ cost benefit analysis of the MMR estimates that some three and a half million borrowers wouldn’t have got a mortgage and many of those would have been relatively mainstream borrowers, so it gives you some sense of the scale of exclusion that potentially flows out of the MMR.

Stephen Smith: It’s understandable that when the credit crunch hit the mainstream lenders sought to ration the mortgages they had avail-able.

We saw LTVs plummet and then gradually other criteria tight-ened as they decided to tweak what they did and did not accept.

But if the CML’s figures are correct mainstream lenders that want to do any volume in the market are going to have to reappraise what is acceptable at some point.

Whether that brings back human underwriting as opposed to credit scoring is another matter though.

Snowdon: It’s important to say that there are thousands of borrowers who never would have been sub-prime even in the days when there was a thriving sub-prime sector. They would have been regarded as mainstream and they currently can not get mortgages.

There is a tendency to think this is just about sub-prime, but it certainly isn’t in my view.

HOW HAS THIS IMPACTED BROKERS?

Hall: Working at the coalface at 3mc we find brokers come to us after they’ve tried the likes of Halifax and Abbey because their cases don’t fit and they’re not sure why.

We are talking to clients who may have had a blip such as a missed credit card payment who lenders like Abbey would have accepted three or four years ago but it is no longer doing so.

These lenders are creating a market for us.

There is an argument that it’s actually prime lenders driving the non-standard market because they decline borrowers’ credit scores.

Malone: Where I see our position strengthening is high street lenders not being able to manage all these clients and they’re going to have to tell them to go elsewhere - I think they’re going to end up directing them to brokers.

Smith: The MMR plays into good intermediaries’ hands in as much as the individual registration requirements will put up lenders’ cost bases.

That’s going to change the balance of pricing between the direct and intermediary channels and that’s finally either going to give us a level playing field or one where the value of brokers is recognised.

Laker: In the past I have suggested that some of the main high street banks may put their mortgages with intermediaries and concentrate on selling savings and current accounts, letting brokers do the mort-gages.

People said it would never happen but actually if it did we’d happily send clients over to them for savings and current accounts if we knew they weren’t going to be chasing the mortgage.

Duffy: I would say the balance between the direct and intermediary channels has got as bad as it’s going to get - it can only get better. It may be a slow process and you may have Tesco and one or two others come in like Metro, but we’re through the worst of it.

COULD NEW ENTRANTS POTENTIALLY IMPROVE CHOICE FOR the NON-STANDARD CUSTOMERS?

Duffy: Mr and Mrs Smith buying their groceries in Tesco will assume that in the same way they can buy a tin of beans easily and even have it delivered to their house, they will be able to get a mortgage.

But wait until they start filling out the fact-find and other forms and they’re told that “We know you’ve been with us 15 years and you have a loyalty card but we certainly don’t want you as a mortgage client”.
Snowdon: It’s an entirely different concept in terms of customer ser-vice to what a supermarket or retail organisation is used to.

Williams: Over time there are huge opportunities for well-capitalised lenders to provide a significant number of loans in the non-standard sector but they will be at a much higher price. We’ll return to a more differentiated market where there will be mortgage provision deeper into the market, but it will be expensive and that will have it’s own consequences.

Hollingworth: I think direct channels are already realising that it’s diff-icult to push on.

They’re having to fight against each other. The work that Legal & General has done with ING just goes to show that. Lenders have to wade through vast numbers of applicants just to find a relatively small number of people who might actually fit their criteria

WITH HSBC THE SIXTH LARGEST LENDER LAST YEAR DESPITE HAVING THE KEENEST PRODUCTS IN 2009, IS THIS A SIGN THAT A BRANCH STRATEGY IS LIMITED?

Richard Spinks: If you’re only playing in 40% of the market then no matter how big you are you’re constrained in how much you can grow.

Williams: There are arguments that we’re going to move into a world where the volumes of transactions are going to be much lower for much longer, where instead of a market of 1.2 million it’ll be well be-low a million.

It could be 750,000 for a long time, which would suggest people will move less frequently and therefore mortgaging oppor-tunities will be reduced. This will have consequences for everyone.

Smith: Hometrack says that we’ll all be staying in our homes for an average of 21 years as opposed to seven to 10 years.

This doesn’t seem natural for the UK public I have to say.

So if you want flexibility of tenure and the ability to move, where else do you go but the rental sector?

Snowdon: I agree but the elephant in the room is mortgage funding.

Where is the money going to come from? Even in the buy-to-let market, where is the funding? It’s not just about regulatory changes such as the MMR, it’s about funding too.

Malone: People are living in their houses for much longer.

For what it’s worth I’ve been in my house for 29 years.

We have the mentality in Scotland that we live in houses because we create homes. It’s the opposite in London. But even here people will stay in their homes a lot longer and the implications of that will be on the legal, valuation and removal fraternities. Suddenly lots of businesses that have done.

From left: Peter Williams, executive director of the Inter- mediary Mortgage Lenders Association, Doug Hall, deputy managing director of 3mc, Stephen Smith, director of housing at Legal & General, Richard Spinks, commercial operations director at Aldermore, John Malone, executive chairman of PMS, David Hollingworth, head of communications at London & Country, Colin Snowdon, chief executive of Aldermore, Kevin Duffy, managing director of Mortgageforce, Sally Laker, managing director of Mortgage Intelligence Holdings

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