“More than half” of mortgages are liar loans

By Leith van Onselen

Over the past two years, we’ve heard explosive reports about the ‘liar loans’ underpinning Australia’s mortgage system from the likes of Variant Perception and UBS.

Now, analysis based on a statistically representative sample more than 3400 mortgages by online property lender –  Tic:Toc Home Loans – claims that more than half of mortgage borrowers understate monthly spending. From The AFR:

Anthony Baum, founder and chief executive, said: “How can banks reasonably rely on a ‘household expenditure measure’ (HEM) when more than half of the population have expenses higher than HEM? Banks have been understating household expenditure by an average of $1400 a month.”

Mr Baum, a senior banker for nearly 30 years, added: “We do not need the courts to determine whether HEM is an acceptable measure of expenses when analysis shows 54 per cent of customers have expenses which are greater than HEM”…

The banking royal commission’s interim report was scathing about mortgage lenders’ systemic abuse of the Household Expenditure Measure (HEM) – a relative poverty measure – in lieu of a comprehensive credit assessment:

In as many as three out of every four home loans examined in the course of APRA’s 2016/2017 targeted review into home lending practices, the banks assumed that the borrower’s household expenditures were equal to the relevant HEM – amounts published by The Melbourne Institute as the Household Expenditure Measure – ‘a measure that reflects a modest level of weekly household expenditure for various types of families’.20 (Some of the banks subject to the targeted review were found to use a HEM figure for a borrower’s household expenditure less frequently than others. Even so, a significant number of the files inspected by the external accountants who conducted the targeted review showed reliance on HEM.)…

HEM represents the median spend on absolute basics, but only the 25th percentile spend on discretionary basics. Three out of four households spend more on things like alcohol and tobacco, adult clothing and childcare than HEM includes in its result. And, HEM takes no account of spending on ‘non-basics’. Together, these considerations show why it is right to describe HEM as being used to calculate only ‘modest expenditure’.

Further, and obviously, HEM takes no account of whether a particular borrower has unusual household expenditures as may well be the case, for example, if a member of the household has special needs or an aged parent lives with, or is otherwise cared for, by the family.

It follows that using HEM as the default measure of household expenditure does not constitute any verification of a borrower’s expenditure. On the contrary, much more often than not it will mask the fact that no sufficient inquiry has been made about the borrower’s financial position. And that will be the case much more often than not because three out of four households spend more on discretionary basics than is allowed in HEM and there will be some households that spend some amounts on ‘non-basics’. Using HEM as the default measure of household expenditure assumes, often wrongly, that the household does not spend more on discretionary basics than allowed in HEM and does not spend anything on ‘non-basics’…

In summary, the HEM is designed to capture the expenditure of low income households, but has been used widely by lenders to understate household expenses for broader loan purposes.

The last word goes to UBS, which has been out front from the very beginning:

(1) Practices of the banks to easily approve credit beyond what may be considered responsible across consumer lending is likely to be tightened further.

(2) It is likely that the banks will face further substantial provisions for fee-for-no-service and inadequate advice. Mortgage mis-selling risk is now very substantial…

(3) Costs are likely to be elevated for several years as the banks invest in cultural change, compliance, systems, processes and likely litigation provisions.

(4) Given the comments by the Treasurer and calls by the Labor Party to further extend the RC, hopes that the final recommendations may be watered down or not adopted by the current or future governments appears highly optimistic.

The risk of the current Credit Squeeze turning into a Credit Crunch is real and is rising…

If the royal commission does result in the end of HEM as a credit assessment tool, it will end the free flow of credit. Property prices will reset lower accordingly and almost certainly overshoot to the downside.

Last week’s Federal Court decision to stomp on ASIC’s WBC settlement for breaching responsible lending rules, has obviously created some uncertainty. But there’s no doubt in our mind that the HEM will no longer be used widely as a credit assessment tool. That is what the recent serious tightening in lending standards announced by ANZ is telling us.

If the HEM is indeed dead, then so to is Australia’s property bubble.

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Unconventional Economist
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  1. If prices were to “overshoot” in Sydney, what would be the predicted total % falls? Sydney is in another strastophere even after 12 months of decline.

    • Sydney is considered 40% overvalued compared to incomes, so I guess an overshoot means more than 40% down.

      • I just don’t know how even 40% down would bring us in line with incomes. 40% down takes us back to what? 2012? We were already overvalued then!

      • I agree PP.

        And what’s more if it goes down 40% then employment will crash (construction and retail) so incomes will crash, so you need to factor in another X% down (I dunno… 20%?) before you even start to count an overshoot.

    • If prices were to “overshoot” in Sydney, what would be the predicted total % falls?

      Sydney houses went from 2x-3x a man’s wage from a normal job in a normal economy to 12x a couples income from two bubble jobs in a bubble economy.

      First let’s consider a return with no overshoot.

      Bubble job income $80k falls to $40k normal wage. House falls to 4x wage. House price is $160,000

      Now let’s consider overshoot.

      Depressed overshoot wage falls to $30k. House falls to 2x wage. House price is $60,000

      I do not expect these prices to be reached. I am far to pessimistic. I don’t think a single wage earner will ever be able to support a family and have a decent house in Sydney or Melbourne, or the other larger capitals.
      I also expect most people to be forced to live in inferior housing such as units.

      • The bit you are missing is that the bubble income 80k wage is already actually priced out of Sydney. Only if the 200k wages start dropping will you see the price of houses in Sydney fall.

      • Keep in mind that housing costs relative to income have only been distorted for 20 years. The long term “normal” isn’t this way. Financial regulation is key. If we go back to a model where banks are regulated properly we can have affordable housing again.

        The way political discontent is going, we need change…that means real Politician’s working for the good of the country. Else there will eventually be pitchforks.

  2. There is no issue. Half the people I work with are so tight that would make the HEM look like an aspirational lifestyle.

      • If it’s me it’s because I don’t earn much and I save at least 50% of whatever I do earn. My young colleagues are all tight arses too, everyone brings their own food most of the time, and we have an ok priced cafe on-site with healthy foods (being a pool/gym most staff eat healthily).

      • But young people are not the ones buying up all the properties. Their the ones who can’t afford avocado on toast.

      • @Gavin
        jeez plant an avo tree – in a pot if you’re in a unit.
        Cold climate? No probs! Bacon variety.

        Or if you’re up my way, Secondo, Fuerte, Hass, Sharwill, 50c at the gate.
        Too busy playing Fortnite to tend to an avo plant.

        The mind boggles!

      • But the boomers and the chinese have all the penthouse units.
        You don’t get much sun to the lower units in modern high density development.

    • Yeah. That’s what we learned from the Westpac/ASIC thing – 75% of loans stated expenses lower than HEM. Ahahahahahaha!

    • Jumping jack flash

      Too right. Nothing that more credit won’t be able to fix.

      Here, have some more debt to spend.

    • Go check a little history, see if you think it’s repeating.
      Those are 2 random months but you can use that format to get to any historical time on MB.
      https://www.macrobusiness.com.au/2013/02/the-history-of-australian-property-values/ is a specific article of relevance.
      “The only option left to policymakers is to continually kick the can down the road, hoping the bust does not occur on their watch. The result, as seen with the Rudd government’s additional First Home Owner’s Boost, was precisely that. This intervention restarted the debt machine, re-inflating housing and land prices to a new, higher peak in 2010. The overarching private debt bubble, which began in 1964, will likely come to an end once and for all when the government runs out of fuel to throw on the fire.”
      has the government run out of fuel? Clearly not in 2013. Now? I don’t know, but they are more likely to have lost the will than actually run out of fuel.

    • Yup, loosen standards and wait for demand to flood in.

      Money can be supplied in almost infinite quantities — demand is the challenge. Went sentiment sucks, demand goes into hiding.

    • proofreadersMEMBER

      They caused the problem together with their other useless bedfellows (APRA and ASIC), and none of them should be part of any solution. It took the RC literally 5 minutes to find them out for what they are.

  3. Jumping jack flash

    No problems at all, who needs HEM when you have sweet LVR?

    Little wonder the banks ignored it. It’s irrelevant. The ONLY measure of risk is LVR.

    And houses are worth whatever we say they are worth. One million? Two million? Take on as much debt that it takes to pay the price. There’s no risk, so what’s the problem?

    Move along, nothing to see here.

    Here, have some more debt.

  4. I guess the whole rationale of the economic model we have been running is that people should spend all potentially available money on housing. Using HEM is a reasonable way of callibrating that just right.

    • Yep banks are doing what’s in their best interests, that is lending people as much as they can to earn the most back in interest over the years as possible.

      • WW, Who are their shareholders, the other banks, and then Super run by their mates in the office next door..
        CBA’s top shareholders
        HSBC, JP Morgan, Citicorp, BNP Paribas, ANZ, etc.

      • By making management shareholders, the shareholders have no need to actually instruct them of this at all.

        The banks own each other so they all get a cut of all the lending, doesn’t change the basic motivation, and the reality is if one of the banks is going broke they most likely all are.

  5. A mortgage that consumes too much family income? Been there, done that. The capital gains are irrelevant if it means penury, exhaustion, discord and commonly divorce.

    And that’s in a rising market.

    Toss in falling prices to negative equity and watch the large over-borrowed cohort collapse under the contradictions. The young ‘uns will thank their lucky stars they were excluded from this madness.

    Let it fall.

    • I don’t know if it’s related or not. But I’m seeing a lot more angry people on the road. I’m getting honked for nothing these days, other than not accelerating a million miles an hour off at the lights. My car is not fast (Suzuki Jimny) but I’m noticing people appear so wound up that even a microsecond delay causes them to get into a rage.

      I guess if you’re bleeding $1000+ a day you might be a little frustrated.

      • Jumping jack flash

        Just being saturated with debt for 30 years would be enough.

        Humans generally get tired of things after around 7 years – like jobs and relationships and stuff like that.
        If you can’t pay a debt off in around 10 years give or take you’ll get a bit frustrated to say the least. 30 years is pushing the boundaries of insanity.

        It’s been about 7 years since Ruddprime, and definitely 10 years since the start of the madness. 20 years to go guys. I’m not surprised everyone is really, really frustrated and angry.

        Debt will do that.
        Shun debt and be happy.

      • @WW – Nah mate, Bavarian stuff is super expensive to maintain, buy parts, and the fuel costs are enormous, plus I’d hate to ruin the interior with the dog in it. Then there is insurance and likely horrible resale value in a few years.

        I can work on the Jimny myself, literally the only thing that’s gone wrong with it is coil packs (packed it in twice!) but it just needs fuel/oil to keep it happy. Easy to park, taught the missus to drive manual in it and I don’t care about leaving it in car parks (dings etc..).

        I’ve actually been weighing up getting a Nissan 260RS stagea wagon. (Basically an RB26 GTR in a Wagon form).

        They have been going UP! in value. I think the coming recession will put a few on the market a bit cheaper than $20k+ at which time I’ll try and find a clean 1, be good for the long Sydney/Melbourne drives I do. Dog in the back, large wagon area for luggage etc.. and I can probably tow my 240z’s or RX7 with it to the track.

        Wanted 1 of these cars for 20 years nearly!

      • If you want a cheap car likely to increase in value over the next few years, my bet is on 90’s wrx. They have got to be getting close to the bottom of their value before demand and scarcity starts increasing prices, with the added bonus of body parts being really easy to come by given the compatibility with base model imprezzas. Sheer numbers mean they will probably never reach the absolute price of a gtr or stagea though.
        How easy are stagea parts to come by?

      • Quite a few Stagea’s imported over the years (260RS is the rare 1 with the RB26), the others had RB25’s and didn’t have the GTR brakes etc.. The front panels of a GTR can be bolted onto the Stagea and many have done it. I’d imagine that other body parts would be harder to get.

        WRX wouldn’t be a good tow vehicle, only drawback.

      • Gavin, my old WRX could tow a boat up a mountain no probs. I used to annoy hotted up fours by racing them up the mountain with boat in tow. The issue is the lower tow ratings in the earlier models.

      • I see this too Gav, though what I’ve noticed most is red light running. Going home last Friday I was at an intersection with oncoming traffic turning across in front of me. I got the green, and several vehicles in the turning lane continued to drive into the intersection in front of me. I as gobsmacked…it was just a huge discourteous “fcuk you” to the other people on the road. They are more important than anybody else, and bugger the law and safety.

  6. DefinitelyNotTheHorribleScottMorrisonPM

    HEM is a fine robust measure of spending because the working classes really don’t have any expenses. A bit of bread and milk, and then pay the mortgage.

  7. I’m a cynic about all this wishful thinking. I’m willing to take a bet that house prices will be the same or higher in 3 years. Any takers?

    • Quite a few seem to be putting their house up for auction at the moment if you are really serious, although I do agree with you.
      They’ll probably go a bit lower first though.

    • You could’ve right R2 but calculate the potential upside and downside. Upside must be a few percent, 5-10 at most. Downside maximum 40-60%?

      No thanks.

    • Well, I wouldn’t make a bet with someone on the internet that I don’t know in person, regardless. Plus, if we were to make the bet we’d have to make it more specific to make sure there is no ambiguity. But yeah, I would probably take that bet.

    • In nominal terms or real terms?

      Nominal is do-able as the RBA is ready and willing to trash the currency. Real, not so much — basically zero chance.

    • @R2M – No way, in my opinion house prices to get smashed this time around. All outta rope… The punters are at max debt. Refer to Ireland 2008. <– You are here.. 😛

  8. Don’t worry. The gubmint has called a Senate Enquiry into pay day lenders. The stories that will come out of there will make the banks look like solid upstanding citizens, and their lending principles to be of the utmost quality. The public and media shall be distracted, and the RC into banking quietly forgotten. Give em bread and circuses.