Emergency Ward

John Murray talks to Tony Ward, managing director of Home Funding, about the blueprint he recently submitted to government outlining proposals he believes could save the mortgage market

We meet at The Dorchester hotel on London’s Park Lane, which is conveniently close to the hotel where Home Funding managing director Tony Ward and I will shortly be going for the Council of Mortgage Lenders’ annual lunch. Ward is apologetic about the opulence.

“This is not one of my usual haunts,” he says.

The setting is curious given that we are meeting just two days after the Budget and the country is going through the worst recession in living memory. Yet the luxury car dealerships along Park Lane are bumper to bumper and the hotel’s restaurant is so full we can’t even get a table and share a pot of tea. Perhaps they’re all MPs on expenses.

Ward likes that notion but what, I wonder, of his own ideas. I ask why he decided to write to the powers that be and set out a solution to the mortgage crisis when trade bodies have been doing exactly that.

I ask if he wanted to showcase his expertise or if he was tearing his hair out at the stupidity of the establishment.

“It was frustration,” he says. “I saw lots of individuals, trade bodies and lenders trying to collaborate with ideas to get the mortgage-backed securities market moving and liquidity flowing again but it was clear they weren’t saying the same things. They were going off and doing their own thing. And I suppose I now fall into that category too.

“There was also a frustration at what was happening at government level. There was too much focus on funding structures and it was losing sight of what it should have been doing, which was to stimulate lending in the parts of the market that need it most – the higher LTV, higher risk and first-time buyer areas.”

Ward says there was an absurd situation whereby the government, the Bank of England and the Treasury were all encouraging lending while the Financial Services Authority was telling building societies to stop.

“Economic and housing risks were growing substantially because there was a lack of funding in key areas,” he says. “Meanwhile, the Treasury was getting bogged down in theorised market trust structures. Securitisation is important but it’s just one level of funding and what we should be trying to do is get the mortgage market going again.

“The point is that we should stop focusing on deal structures and whether it’s right to give priority to banks and societies over non-banks. We have seen a lot of comment recently asking whether it’s fair to leave non-banks out. Well, it isn’t fair but such is life.”

The government and Treasury are bound to focus on where they’ll get the best returns but Ward wanted to go back to first principles and try to boost lending where it is most needed.

“If you could ring-fence societies from the risks the FSA isn’t happy for them to take they would be able to operate tomorrow provided they had the liquidity,” he says. “The point is that nobody can afford to take the risk. House prices are still falling and we’re going to overshoot on the downside without state assistance.”

So Ward is calling on the state to underwrite up to 95% LTV as a sort of state-backed mortgage indemnity guarantee, with the private sector taking 5%.

He believes the first-time buyer and sub-prime sectors are growing, with the government forecasting another million unemployed next year.

Moreover, Ward believes the risk to taxpayers won’t be great.

“The overall turnover in the housing and mortgage market isn’t that big,” he says. “So it’s not an open-ended cheque book that I’m asking for. And if my plan works it will stabilise the housing market and the economy.”

I wonder if his idea is that good, why we can’t simply bypass the government and go back to the commercially provided Mortgage Indemnity Guarantees that preceded the housing crash of the 1980s.

The answer can probably be found in the question and in how little MIGs did to mitigate the situation back then.

Besides, as Ward points out, with the pressure on global players in this sector of the insurance market to repatriate capital across the pond, any willingness to support the idea as a standalone commercial proposition would be undermined by lack of capacity.

But Ward believes it would work if the government was prepared to underwrite its share.

I ask if his proposals have resulted in tea and sandwiches in Downing Street or perhaps a chat with Lord Myners over a can of Red Bull at the Treasury.

Ward laughs.

“Frankly I haven’t had any response from the government,” he confesses.

In his recent Budget, chancellor Alistair Darling promised to introduce a scheme to guarantee MBS, an £80m extension to HomeBuy Direct and an extension of the ISA allowance that might provide a modest boost for retail savings.

But I suggest this falls a long way short of Ward’s proposals so perhaps the government believes that the commitment to lend from its own mortgage banks – along with promises from the likes of Barclays to lend an additional £5.5bn this year – is already doing the trick.

“It’s not enough,” says Ward. “Even when you look at HSBC lending up to £1bn at a high LTVs, it’s not that great.”

I prompt him on his other proposals, which are more focused on mortgage funding issues.

“There are three recommendations in my paper – the so-called MIG initiative and two that deal with the bond market, whether these are covered bonds or MBS,” he says.

“Dealing with the bond market, now we’ve seen the chancellor’s announcement on AAA-rated securitisation guarantees my view is that it won’t improve investment in MBS in the primary market – and not because investors don’t like the risk.

“Let’s be honest, we haven’t seen an AAA-rated security default in 20 years of the UK mortgage securitisation market and I don’t think we will,” he says. “The reason investors are not investing is not because there isn’t a guarantee, it’s because these are not liquid instruments – they can’t be traded.

“If you think back to the traditional volume investors they were banks, pensions companies, structured investment firms and hedge funds. The hedge fund market doesn’t work the way that it used to. Players used to gear themselves up immensely. They would put 10 times their own money in and then borrow 90 times that. They can’t borrow that much now so there’s no leverage for them. “That leaves banks and pension funds,” he adds. “Of course, banks have cash and capital calls of their own and are distracted with other things at the moment. I don’t think we’re going to see them coming back as investors in the securitisation or covered bond markets in a meaningful way for some time.”

Ward says that leaves life and pension funds but given that they are the only players in the market, there is a dilemma.

“So the first proposal I was making about the secondary or bond market is about two things,” he says. “First, we’ve got a fair bit of paper knocking around that been offered to the market by distressed sellers at a discount. Who’s going to invest in new AAA-rated securities when they can invest in existing AAA-rated securities for a significant discount? That paper has to go and the Bank should take it.

“Second, once we’ve sorted that out we need to create a trading environment that ensures liquidity for life and pension funds. To this end, some existing Bank facilities should be made available to life companies.”

But even without this, Ward believes many of the government’s guarantee announcements in the Budget have inherent problems.

“Even if you go for an AAA-rated security with government backing you’re not going to access key investors until you sort out secondary market issues,” he says.

But I wonder if ratings agencies are not part of the problem. First they rubber-stamped virtually all residential MBS issuance AAA and then they downgraded societies.

I ask how this latter move will affect mutuals that have taken advantage of the Special Liquidity Scheme.

Ward says he’s still looking into that development.

“Under the terms of the SLS you can place AAA-rated securities and covered bonds or securitisation issues and these are subject to haircuts depending the way assets have been originated,” he says. “There are also triggers in the SLS depending on corporate ratings.”

He suggests that some societies may have to put up more collateral and adds that if they are downgraded too far they may have to repay their SLS borrowing.

“I can’t see how they’re going to do that,” he adds, showing a certain talent for understatement.

We move on from society issues to a fundamental problem that Ward’s proposals might have with the authorities. I venture this might be Bank governor Mervyn King’s mindset, in that King seems to believe retail lending should be retail-funded and that leveraged funding techniques are all but dead.

“There’s a shocking misunderstanding by senior officials about the role of retail funding,” says Ward. “They seem to have forgotten that a prudent board and treasury operation cannot fund 25-year mortgages with overnight demand deposits.”

So I ask if relying exclusively on retail deposits is as foolish as relying too much on wholesale funding, as in the case of Northern Rock.

“What brought Northern Rock down LSwas not its special purpose funding vehicle Granite but its short-term funding,” he says. “It was holding partly retail and partly short-term wholesale funding and when the music stopped it couldn’t roll its short-term funding over.”

But whatever the cause of its demise, the consequences have been recognised by the FSA, says Ward, referring to the queues of depositors outside Northern Rock branches wanting to withdraw their money and FSA proposals that recognise that the liquidity guidelines for banks and societies need an overhaul.

The terms of the FSA’s proposals are formidable, he says, in that lending institutions must have liquidity policies in place that allow them to survive a two-week lack of confidence.

“That converts from an institutionally-focused event to a market-wide adjustment,” adds Ward. “In other words, ex- actly what we’ve been through – and that’s radical.”

And therein lies the conundrum – if risk is to become a thing of the past, so too might lending.