Uncovering Australia’s sub-prime lending

By Leith van Onselen

The Australian newspaper (Anthony Klan in particular) has done some great work this year in questioning the commonly held view that Australia’s banking sector is conservative.

In April, The Australian uncovered how Australia’s largest banks are being forced to forgive mortgage debts of borrowers granted loans based on falsified or fraudulent information supplied by mortgage brokers.

Then in June, The Australian followed-up with further reports (here and here) of Australian sub-prime lending, and the battle playing-out between unscrupulous lenders and borrowers.

In August, The Australian reported on instances where the banks had been enticing elderly Australians into Ponzi-like mortgages that they had no way of repaying, as well as provided detailed coverage on the Senate committee into banking, where evidence of widespread improper lending practices were revealed. The Australian also revealed that lenders had been refusing to provide low-doc borrowers with copies of their applications, while other lenders had told borrowers that such documents had been destroyed.

Following their article yesterday revealing how higher-risk low-doc lending is making a comeback, The Australian today has published another ripper article questioning the RBA’s claim that Australia was not involved in widespread sub-prime lending:

HOME loans classed as “sub-prime” accounted for about one in 10 of the nation’s mortgages when the global financial crisis hit, with those loans now more than six times as likely to be in arrears as normal loans.

The figures reveal that claims Australia was insulated from the worst of the GFC due to vastly superior lending standards, a notion encouraged by many of the biggest banks, are exaggerated.

Following the GFC, the Reserve Bank repeatedly moved to distance Australia’s mortgage market from that of the US, claiming fewer than 1 per cent of loans here were sub-prime, compared with about 14 per cent in the US.

However, that analysis failed to account for high-risk “no-doc” and “low-doc” loans, now officially recognised as “sub-prime” in the US…

According to Reserve Bank figures, low-doc loans represented 7.85 per cent of all bank loans in September 2008, as the GFC took hold. Those figures do not include non-bank lenders, who were proportionally far more active in writing low-doc and no-doc loans, and the loans the RBA had originally identified as sub-prime…

The latest figures from ratings agency Standard & Poors shows 6.07 per cent of low-doc loans are more than 30 days in arrears – almost five times the rate for normal loans – with those arrears rates doubling in the past two years. Low-doc loans are currently more than six times as likely to be 90 days past due, compared with normal loans…

[The figures] …suggest Australia’s mortgage market was far more susceptible to a surge in unemployment or substantial house price corrections than has been generally acknowledged.

Another reason for the surge in low-doc arrears rates – and further evidence of improper lending during the boom years – was the 2010 introduction of the National Consumer Credit Code.

Under that legislation, lenders and mortgage brokers can be held liable for writing improper loans, and many people with questionable low-doc loans written before the new loans are finding they cannot refinance…

Lending expert Martin North, of Digital Financial Analytics, said Australia was lucky the crisis hit when it did. “Had the GFC not hit us, and had the lending market continued to develop as it was for another 12 months, then the major (lenders) would have ventured much further into low-docs and milking riskier lending sectors,” Mr North said. “We got away by accident rather than design.”

Well done to The Australian, and Anthony Klan in particular, for keeping abreast of this issue.

Twitter: Leith van Onselen. Leith is the Chief Economist of Macro Investor, Australia’s independent investment newsletter covering trades, stocks, property and yield. Click for a free 21 day trial.

 

Leith van Onselen

Leith van Onselen is Chief Economist at the MB Fund and MB Super. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.

Comments

  1. “Well done to The Australian, and Anthony Klan in particular, for keeping abreast of this issue.”

    +1000 its about time that some of the MSM wake up and get their heads out of the sand.

    • What I dont understand is how Mortgage Backed Securities are legal? Once the bank who originally issues a loan sells the loan into MBS tranche the original mortgage/promissory note becomes the property of the owner(s) of the MBS tranche, not the issuing bank. So how does the issuing bank still maintain the right to collect loan payments if they no longer own/possess the mortgage note ?

      • Cognitive Dissonance

        Hear, Hear the institution that writes the loan should be obligated to keep it until maturity.

        It should be one of the little rules to provide the equal and opposite for their great privilege to be able to create bank credit.

        The investment bank acts as a manager and collects the moneys and distributes it out (I read once)

        • From what I can make out once the mortgage note is sold the issuing bank becomes the servicer as you describe. Collects the money and distributes it to the owners of the MBS. I have seen MBS prospectus stating that the the issuing bank is contractually prevented from informing the customer their mortgage note has been sold and whom to. Furthermore the issuing bank is obliged to inform the manager of the MBS if a customer questions the issuing banks (now servicer) possession of the mortgage note !!!

      • The bank acts as agent of the new owner of the mortgage and passes the interest (or the net proportion to which the new owner is entitled) on to the new owner. The new legal owner in turn is probably a trustee or nominee who then divvies up the interest between the beneficial owners of the mortgages or those entitled under an assignment of income.

        • Correct, so the bank no longer possesses the mortgage note so legally has no right to continue to make demands for payment. The Original loan contract was between the issuing bank and the customer, therefore unless a new contract is signed by the customer and the ‘new owner’,than neither the issuing bank or the new owner/possessor of the original mortgage note have right to demand payment. Mortgage null and void. MBS facilitate MORTGAGE FRAUD.

          • My understanding is that the customer bank relationship stays intact. The Bank simply sells a MBS which is a derivative of the mortgage book. This enables the bank to replenish it’s funding pool, take a percentage off the top (profit and servicing costs) and pass the risk on. The risk is probably also spread with CDS’s

  2. What continues to baffle us property skeptics, is the great Australian Housing Bubble’s ability to defy gravity for so long. I have for some time now, suspected covert QE into the mortgage-backed security market.

    But inflated urban land prices squeeze the economy at both ends: discretionary spending is reduced, productivity is reduced, as well as systemic risk increased. So these bubbles simply have to be the author of their own demise eventually.

    • Perhaps that’s the debtors share of the current financial repression policy. Creditors have had the squeeze put on their savings to recapitalise the banks. Debtors are now about to do their bit to save the world, by assuming even more debt. How ironic, that increased debt is seen as the salvation to our indebtedness! So your ‘eventually’ may be further off than we imagine.

    • PhilBest, the fetishisation of property ownership and the seemingly inexhaustible mortgage-masochism endured by the Australian public cannot be underestimated. 21 consecutive years of economic growth has entrenched this behaviour. You can never own enough property, any kind of property, no matter your capacity to pay for it, so long as the debt is being sold to you, you buy it.

      But I am certain that the obvious is inevitable, and the consequences will match the 21 years of growth in awesomeness.

      • I think there is a major irony in the fact that economic cyclical volatility, linked to “property”, was high in the era prior to “automobile based development”. Fred Foldvary is the expert writer on this. He notes that these “cycles” were strangely interrupted between the Great Depression and the 2007 crash. Except that there was an earlier weak cycle associated with commercial RE and with California RE, in around 1990.

        But Foldvary has not worked out the connection with urban land “supply” consequent on automobile based development. Note that the UK imposed “anti sprawl” planning in 1947, and they had NO interruption in the property-based cyclical volatility. However, numerous countries that did have pretty much unconstrained “sprawl”, did experience decades of stable economic growth. France, Sweden, Australia.

        This lulled everyone into a false sense of security, and few people even yet, see that “urban growth constraint” as a deliberate policy, returns the economic norm to the “pre automobile” era – i.e. high cyclical volatility.

        The artificial “boom” that represented the “up” phase of this returning volatility, was also seriously misinterpreted as a new norm.

        Now, where do I pick up my Nobel in Economics?

      • I believe negative gearing is a HUGE psychological factor. Of all the people I know who are negatively geared, their primary concern is “getting one over” on the taxman and think because they pay less tax, they are implicitly ahead.

        Few of them do the maths to work out their net position with and without the investment property/negative gearing. The ones who do make ridiculous capital growth assumptions.

        • Few of them do the maths to work out their net position with and without the investment property/negative gearing. The ones who do make ridiculous capital growth assumptions.

          True, My experience talking with my “landlord-class” mates also confirms this ignorance. In addition, most people do not understand the concept of opportunity cost and nominal v. real capital growth and thus believing that they made a killing when they can sell at a nominal price gain – though if you actually do the calculation with inflation-adjusted and alternative investment, the result is actually bad or at least not as good as they thought.

        • dumb_non_economist

          NG and a HUGE psychological belief in housing that will hard to break. It doesn’t matter about the level of education of the individual either.

          • The general laziness of the Australian investor is also a factor, I’m sure.

            Understanding and tracking shares sounds like a lot of ongoing work and effort! And as for understanding franking, dividends, brokerage, …wha?? So complicated!

            Buying a house and renting it out sounds easy to understand and simple to do. Everyone around the BBQ is doing it.

            I’m absolutely certain most “property investors” never take the time to compare property to shares, deposits or other investments. They just sign up for property because “it’s what you do”.

          • A bit harsh, but a kernel of truth in there. Although, once you get into property investing, it can be as complicated as shares, particularly the buy/sell process, depreciation schedules, legislation etc. You need a good accountant to make it work properly (and I mean a specialised tax accountant to get “best” advantages out of negative gearing etc).

            Its an easier story to tell compared to shares, which are more “volatile” and “riskier” according to mainstream thought, although they confuse the two terms.

            Also comparing shares to property using indicies is fraught with bias – composition, survivorship, etc. Also no one properly compares shares/property on a money management basis (i.e using leverage or position sizing), except when making a point that fits their own perception of one’s superiority over the other.

        • +1 well said drsmithy.
          They think the tax refund cheque means they are making money on NG. Most are not even in top tax bracket & don’t see that they are losing real cash each year.
          But property always goes up, even when it doesn’t!

      • Many young/middle aged people saw their parents and grandparents who did not own their own homes evicted by new owners, sometimes even after 20 or 30 years in the same place. As a student I saw neighbours who had lived in the same flat in Bondi Rd for 30 years evicted by a new owner who wanted to renovate and increase rents. It gives most people a sense that security comes through ownership of property. And if property is increasing in price each year, then buying now becomes even more important as you can’t save fast enough to match the increased price.

        Previously it was abhorrence of debt in middle age by my parents generation who saw what happened in the Great Depression to those who owed money on their homes/farms and lost their jobs.

        Each generation learns by osmosis from the profound impacts on their parents generation.

        • +1. To my grandparents generation, it was cool to be debt-free and save every dollar.

          From the boomers to some of gen Y, its cool to be up to your eyeballs in debt on your PPoR or multiple investment properties.

          I think the next generation will have more in common with my grandparents.

    • You would think so, but as rates go towards zero, as they will, housing will see more capital. it makes sense only when you realise we only have houses, a service industry, and mining. on top of that government policy to allows this to happen.

  3. +100 Yep, Australia’s premier toilet paper, and Mr Klan in particular, deserves credit for their coverage of this important topic.

    On the other hand, News ltd does not cover in glory when slimy characters like Terry McCrann defend the RBA bureaucrats for covering up the bribery scandal and obstructing the course of justice.

  4. Cognitive Dissonance

    Was it not also established that the reported arrears rate was as rubbery as hell because the banks are giving out bridging loans as opposed to letting these people get what was coming to them ?

    And one case the bridge is now 4 years long.

  5. They’re reporting 6%+ of Low-Doc loans are already 90 days + delinquent?

    By some estimates average default rates for those who are behind on their mortgages are:

    70% for 30 days
    95% for 60 days
    100% for 90 days delinquent.

    The implications are that the “Shadow Inventory” of mortgagee sales is overdue for a massive expansion!

  6. Ha-ha-ha, it turns out that because everything comes here with some retardation we have actually been saved from the American like disaster. That was really great…