Competition in a Global World
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21/07/2010 9:16:00 PM
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Australia
Australia has fared well so far during the GFC, joining ranks with Canada as the two global markets having had very similar experiences.
“We hardly felt the impact here thanks to the fact that the resources sector continued to boom, strong and early government stimulus intervention and a banking sector which had not got into the CDO market, had little subprime debt and strong supervision,” says Martin North, executive director Industry Group, Fujitsu Australia Ltd.
He says some of the reasons for their doing so well is that initially the treasury forecast unemployment rate would rise to above nine per cent, but it actually peaked below six per cent and is currently falling. Also, interest rates were cut to emergency settings, but have been increased in the recent months to near pre-GFC levels. Housing prices rose 12 per cent, and continue to rise, thanks to undersupply and bullish employment.
Australia never had a huge subprime market, only ever having less than one per cent, those of which were mostly securitized and non-bank lenders.
“They have disappeared as funding dried up and most of the lending is now concentrated in the four major banks, who do little, if any, subprime.” North said.
Lenders have now since adapted their practices by consistent reduction in LTV ratios and a raised awareness of savings history from potential first-time borrowers. There is more scrutiny of refinanced transfers and greater segmentation of customer profiling risk and affordability.
“Two of the four majors grew their books significantly and on some measures wrote over 60 per cent of new business – so that was a major realignment in the industry.”
Another factor is the reduction in the variety of products and price points, more standard products and overall higher margins.
“Banks have increased the rates above central bank rate movements because of increased funding costs (especially from overseas capital markets) and there has been a renewed battle for retail deposits to fund the book – so savings rates are higher,” says North.
He says competition today is different from pre-GFC and that competition may not actually be beneficial to Australian borrowers.
“The big four are competing with each other on pretty standard products and services. The second tier lenders are finding it hard to compete because of higher funding costs and consumers are concerned about “unknown” brands. There has been consolidation, so on some measures competition has been reduced.”
The reopening of the securitization markets might make it is possible for non-bank lenders to reappear, he adds but there is little evidence of that so far.
Overall, North thinks Australia fared well during the GFC because of its overseas sectors and other practices. “It was due to more conservative banking strategies, higher margins and supervision. We were also lucky because we have a booming resource sector in China. As that country stimulated its own economy, it created demand for minerals etc., so we have planted the seeds for later, with booming housing prices and affordability.”
Canada
While in many ways Canada and Australia had very similar experiences through the Global Financial Crisis (GFC), it is clear that competition has fared much better over the last two years in the North. According to the Davis and Henderson Market Share Report, as of Q3 2009, banks had 55.8 per cent marketshare, while mortgage banks were at 30.8 per cent. Credit unions made up 2.8 per cent of the pie and the rest is non-conforming subprime lenders. Compared to the same period in 2008, the mortgage bank share had actually grown.
President Boris Bozic of Merix Financial, a non-bank lender in Canada, says there are two reasons why the Canadian non-bank sector has been resilient throughout the GFC.
“The Canada Mortgage Bonds (CMB) Program has continued to help non-banks to compete in this marketplace by offering a competitive cost of funds. While not as cost-effective as the bank’s balance sheets, the CMB has allowed competition to thrive in this marketplace.
“Secondly, the non-banks over the previous five years never strayed too far away from quality ‘A’ business. That has served our industry well as Canadians who own homes have the financial ability to remain in those homes.”
As in Australia, competition in Canada has been very beneficial to Canadian borrowers. Bozic says non-bank lenders have been able to provide tailored solutions to specific niches that were largely ignored by the banks. As well, the size and speed of smaller non-banks has enabled that sector to drive most of the product innovation in that country – dead-tracking systems for originators, no-frills mortgages and split-level mortgages for example.
Bozic adds “Furthermore, non-banks are generally not hampered by multiple distribution channels, which allow them the ability to offer discounted rate sales immediately to the market as cheaper funds become available.”
But Bozic forecasts Canada may be heading down a similar path to Australia, although not to the same extent.
“There are fewer lenders in this industry today. And on top of that we have seen how lenders in this industry have moved toward this “selective access” approach based on volumes, which, ironically, Merix pioneered five years ago. The result is that many brokers now don’t have access to all lenders. We recognized this at Merix and have shifted our focus. We’re still selective, but the focus is now on efficiencies and this has opened us up to mortgage brokers and their customers who would have otherwise not had access to us.”
U.S.
The effect of the Global Financial Crisis (GFS) in the U.S. has obviously been much more pronounced. And the decline of competition has coincided with the decline of broker numbers.
International mortgage commentator Dave Agena spoke anecdotally on the state of competition in America. He says marketshare between banks and non-banks “flipped in a heartbeat” as a result of the GFC. Prior to the crisis brokers were sending approximately 70 per cent of their business to non-banks, whereas now it’s closer to 30 per cent. As well, the overall broker population of brokers has plunged from 54,000 to just 15,000 (and continues to drop).
“The GFC decimated the brokers because the banks could no longer package the mortgages into Mortgage-backed Securities (MBS) that could be sold to the private (Wall Street) and public (FNMA and FHLMC – the Government Service Enterprises) secondary markets and therefore the liquidity to fund the brokers all but vanished. It was like an electrical grid that went black almost overnight,” Agena says.
He adds that the banks’ current monopoly on lending has resulted in slower turnaround times for consumers, higher rates and fees, limited product selection and “severe to draconian credit guidelines.”
“Ultimately, I feel competition and the need for the broker will return when the markets start to view MBS as a favourable investment. Then liquidity will return to the mortgage market and the banks will not be able to provide the volume at the profit margins they will want... outsourcing mortgage originations to brokers is a much more efficient and cost-effective way to ramp up volume (via variable costs) than to go in-house (via fixed overhead).”
Agena says the decimation of the mortgage broking industry in the U.S. is more than just the result of liquidity problems.
“Congress in general and the mortgage industry in particular was looking for a whipping boy, a scapegoat they could point the finger at the “sub-prime meltdown” so they threw the brokers under the bus and backed up and ran over them several more times just to demonstrate (superficially) they were fixing the problem. It was like the winemaker blaming the grape-pickers for the bad grapes that caused the bad wine.”
He adds that brokers were an easy target – they were not organized on a national basis, they had little capital to spend on lobbying.
“Ironically, a case can be made that the brokers were the least at fault because the broker was only originating (picking the grapes) what the banks wanted them to deliver,” Agena says, adding that brokers had no authority to: determine the underwriting guidelines, appraise the loans, approve the loans, provide LMI approval (the five major private mortgage insurance companies, fund the loans, package the loans into MBS, or rate the MBS’s AAA to CCC.”
Agena admits there were plenty of bad apples in the industry, but responsibility for the subprime crisis lay with bigger fish.
“Greed is a powerful motivator and left unchecked it will always lead to its own demise. The grape pickers were making great money but the winemakers were getting rich and funding their retirement plans at the ultimate expense of the taxpayers.”
U.K.
Like the U.S., the U.K. suffered much more through the Global Financial Crisis (GFC) than Australia.
Alan Shields, director at Retail Finance Intelligence, says a lot of lenders that were active prior to the crisis have now exited.
But the makeup of the banking sector is very different to Australia – in the U.K. the equivalent “Big Banks” or High Street Banks, such as Barclay’s Bank or Lloyd’s TSB have between five to seven per cent marketshare each, so they’re not the big home lenders. The largest home lenders in the U.K. are current or former building societies.
Halifax, a former building society, has almost 15 per cent of the mortgage market, while Nationwide, which is still a mutual, is the second largest in the home lending space.
“You’ve also got much wider range of sizeable players in the U.K. market,” Shields says. “So there are a lot of players that have more than one per cent of market, whereas here, it’s only a handful.”
And in contrast to Australia, the deposit base of U.K. institutions is much smaller. For Australian banks about 60 per cent of funding is from deposits, whereas U.K. counterparts derive about 30 per cent of funding from deposits.
The U.K.’s reaction to the GFC has been quite different, but Shields says it was by necessity – government bailout of big banks was absolutely vital to ensure they lived to lend again.
Fujitsu Consulting’s managing director Martin North agrees.
“In the U.K. because several of the banks nearly fell over, the government ended up putting massive amounts of capital into the banks and effectively nationalizing those big banks. The biggest has 40 per cent share at the moment. The next biggest has 25 per cent share. But they’re predominately nationalized institutions in all but name at the moment. Under direction from EEC, they’ve had to sell off piece of their business. Ultimately, they’ll probably go private again, but not in the short term. What they’ve said in the U.K. is they’re less worried about competition and more worried about survival at the moment. It’s a very different scenario to here. We didn’t have any failures here, whereas they had lots of failures there. The banking system in the U.K., I think has five to 10 years of significant pain with low returns to shareholders, competition has gone through the floor, bank fees have gone through the roof. It’s a very, very sad situation and very different from Australia.”