‘Worrying hotspots’ in bank books, warns analyst

Referring to the latest findings from APRA’s quarterly ADI property exposures statistics, Digital Finance Analytics principal Martin North has highlighted that lenders appear to be more willing to make interest only loans and loans outside of serviceability criteria.

In the December 2016 quarter, the proportion of interest only loans for the major banks rose to 40 per cent (from 37 per cent previously).

Speaking to Mortgage Business, Mr North also pointed out that the share of loans written by mortgage brokers, which are “in principle slightly riskier”, trended up to 48.8 per cent.

He explained: “There are higher ratios in terms of debt to income and other things through the broker channel. You could argue that it's because of the type of customers that go through the broker, perhaps they're shopping for the best lender they can get.

“You could also argue that brokers can go straight to the lender and find a loan that allows a customer to get the bigger loan ... the data shows that there is a higher risk of default in loans written by the broker channel. It's not dramatically higher but it's significantly high enough to notice in all the data.”

Further, Mr North said he noticed the APRA data showed that there was still a significant representation of loans outside serviceability criteria in the major banks’ mortgage books (3.5 per cent).

“Put those three things together and I think there are some, below the water, indications of perhaps more risk in the mortgage book,” he concluded.

“We are at a very interesting point in the mortgage industry in Australia. We've had very strong growth in mortgage lending and the data over the last couple of days confirmed that the momentum in the mortgage lending book is continuing.

“However, it is at a time when house prices are astronomically high. If you measure it against GDP or you measure it against household debt, house prices are way too high, particularly in the eastern states. So, you have to question whether in fact that momentum can continue, and if it were to change then what that would do.”

Mr North also noted that although there have been small increases in investment loan rates, they are still “very low” on an absolute basis, and his expectation is that they are going to rise in the near future.

“As a result of that, more households are going to find it more difficult to make their mortgage repayments, bearing in mind that income growth is static or falling in real terms, so put all those factors together and what it means is that whilst the overall portfolio of the mortgage books among the banks looks pretty good, I think there are some more worrying hotspots in the books,” he said.

“Whilst personal insolvencies and that of businesses and agencies across Australia generally aren't too bad at the moment, the forward expectation is that delinquencies in the mortgage book will rise.”

APRA will continue to ‘bear down hard’ on lenders

To mitigate the increasing risk in banks’ mortgage books, Mr North said that lending underwriting standards need to be tightened.

“It looks to me as though some of the underwriting settings that we have currently in Australia are too liberal and they need to be tightened to dial risk back, because house prices can go down, interest rates can go up,” he explained.

He pointed out that last week’s APRA data underscored the need to improve understanding of what is happening in banks’ mortgage books.

“I think [APRA] is worrying more purposefully about what risks sit in the books and what needs to be done about it,” Mr North elaborated. “My expectation is that APRA will continue to bear down quite hard behind the scenes on the lenders.

“There are levers which potentially are available to APRA and the RBA and the regulatory framework that we have in Australia that aren't being used and perhaps they should be. LVR is not sufficient to manage the risks in the book. Investment speed limits alone aren't sufficient to manage the risk in the book. I think there are other tools in the toolkit and if I were APRA I'd be looking very hard at those other tools.”

[Related: APRA announces fresh guidance on mortgage lending]