Lenders on notice over interest-only loans

Australian lenders will be under close watch by the prudential regulator after the Reserve Bank flagged a spike in interest-only loans as a potential risk to the financial system.

Yesterday the RBA warned banks to consider the “system-wide risks in property markets” in their lending decisions.

In its biannual Financial Stability Review, the Reserve Bank pointed out that low interest rates, rising property prices and strong competition among lenders has driven credit growth at its fastest pace since before the GFC.

“Household credit growth has picked up, almost entirely driven by investor housing credit, which is growing at its fastest pace since late 2007,” it said.

James Hickey, Deloitte partner financial services, said the RBA was warning lenders to ensure they were on top of their high LVR mortgages, particularly with interest-only loans.

“That is the one that really concerns the regulators most because while there may be some protection because the LVR is only 80 to 90 per cent, it is interest-only loans that are likely to have serviceability challenges going forward,” Mr Hickey told Mortgage Business.

“So they are trying to make sure that the serviceability tests by the lenders are appropriate and allowing for enough of a buffer when you’ve got investment borrowings interest-only and at relatively higher LVRs,” he said.

The Reserve Bank fears increased investor demand could encourage more marginal borrowers to take on more debt.

“Lending to investors is expanding at a fast pace, which could be funding additional speculative activity in the housing market and encourage other more marginal borrowers to increase debt,” the RBA said.

“Lending growth is varied across geographical markets and individual lenders, which may suggest a build-up in loan concentrations and therefore correlated risks within the banking industry,” it said.

In an attempt to mitigate these risks, APRA has written to bank boards and chief risk officers asking them to specify how they are monitoring housing loan standards and ensuing risks to the economy.

APRA has also assessed the resilience of banks’ housing loan portfolios to large negative macroeconomic shocks, including a severe downturn in the housing market, as part of its regular stress testing of banks’ balance sheets.

In addition, the Reserve Bank is discussing with APRA, and other members of the Council of Financial Regulators, further steps that might be taken to reinforce sound lending practices, particularly for lending to investors.

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