They have been essential in raising the level of competition and innovation in our market, particularly the specialist sectors. And it is the specialist lenders, not their prime counterparts, that are leading this funding innovation.
Virtually all lenders 20 years ago relied on deposit-based funding. In other words, only banks and building societies had access to large supplies of cheap funding through the deposits their customers held with them.
But since then funding has become available to specialist, non-deposit based lenders through new techniques. Central among these are warehouse lines, securitisation and whole loan sales. These instruments have made the boom in mortgage lending possible.
They have also dramatically cut the barriers to entry into the lending market, particularly into the specialist sectors. With new lenders there is fierce competition within the specialist markets. This has helped them to outshine their prime counterparts in terms of innovation on service and products, as well as funding techniques.
Securitisation, in which the lender bundles a pool of mortgages and sells the future revenue stream to investors in the form of bonds, is now a tried and tested technique that is increasingly being employed by larger banks. But it is in whole loan sales, in which the lender sells a pool of mortgages directly to another institution (often another lender) including all the risk and legal title, where the real innovation is occurring.
Not only are these options opening up potentially cheaper streams of funding, they now also play a key role in risk management – an area where specialist lenders are far ahead of their mainstream counterparts. Because lenders can manage their portfolios they can help manage the risks they are exposed to.
Greater flexibility can also be ensured by using a wide range of funding sources, again reducing the risk that the lender is exposed to. Both the costs and the time it takes to carry out these techniques should be further reduced as the processes become more popular and standardised. At Oakwood we are committed to understanding the possibilities and putting them into practice.
These refinements will help specialist lenders take an even more sophisticated approach to funding and risk management, allowing them more room for innovation in products and services. As a result they are in a better position to take on large prime lenders in the battlegrounds of the near prime and prime markets.