Rewind the clock just five years and the term ‘specialist lending’ wasn’t one bandied about the mortgage market. Now, every trade publication worth its salt has an entire section dedicated to the sector. But just because the name specialist finance is new, the notion is not.
Every adviser is well aware that clients do not come off the shelf. Every person is an individual with their own specific set of circumstances, assets, liabilities, prospects and objectives. Yet in finance, lenders at least, still have a tendency to treat every client in the same way – as though they ought to fit into pigeon hole a, b or c without deviating.
Brokers know this is rarely the case, and in many ways it is the clients who can squeeze themselves into lenders’ boxes who actually don’t need our help. Perhaps given that context, it is counter-intuitive then to think that these are the clients most advisers deal with day in day out. It is really those who don’t fit the mould, those whose circumstances are by definition individual, who desperately need a qualified mortgage adviser to assist them. It is encouraging, therefore, that networks and brokers alike are waking up to the advantage of helping these borrowers rather than labelling them a ‘problem’ that will take too much work for too little return.
There are a number of factors influencing this. Sub-prime as a category of borrower never went away – there are many hundreds of thousands of borrowers in the UK whose credit suffers a temporary blip due to death in the family, divorce, redundancy, serious illness – the list of reasons is endless. The need for mortgage finance remains. Today we refer to borrowers in this category as having ‘adverse credit’ and, to be fair, there are a number of significant differences between this and the sub-prime of old.
The first is the regulation governing all first charge mortgage lending. Sub-prime was historically sold in tandem with self-certification mortgages, and financially vulnerable borrowers were often wooed by cheap discounted rates without having to prove their income or affordability. This is now very definitely not the case. Perfect credit, adverse credit, no history of credit at all, lenders must now be satisfied that a borrower can afford the mortgage before it is awarded, meaning those with no job, no income and no prospects are simply not going to qualify. This shift has definitely meant that lending in this specialist category may be seen as higher risk but it is not deemed reckless as sub-prime was in the past.
The second reason for increasing interest in adverse credit lending is that interest rates have been so low for so long that lenders are struggling to make money on mortgages at vanilla rates. Specialist loans for those with a history of adverse credit carry more risk and therefore attract higher rates of interest – in other words, lending in this market is a lot more profitable. The third is also linked to interest rates – investors are in search of reasonable returns and specialist lending offers good return on investment. Ultimately the performance of mortgage asset relies on two things: the quality of the security and the ability of the borrower to repay. House prices continue to rise in most areas of the UK, loan-to-values rarely exceed 85 per cent and borrowers deemed adverse have demonstrated their ability to repay the loan. There is money available to lend and there are borrowers who need to borrow.
Lenders have cottoned on and that is reflected by the number of players in the space now. Kensington has long subscribed to the value of manually underwriting borrowers and taking a common sense approach to their circumstances. Many of the smaller building societies too, never gave up finding more flexible approaches to underwriting mortgages and helping borrowers who had experienced minor financial difficulties find a mortgage. Now however, they are joined by the likes of Pepper Home Loans which launched last year, Magellan Home Loans, Precise Mortgages and the most recent addition to the gang, The Mortgage Lender, headed up by Trevor Pothecary who was the brains behind Mortgages Plc.
These lenders tend to view applications on a case by case basis and will take the time to get under the skin of a deal. They want to assess whether the borrower has resolved a historical credit issue, for example an inheritance tax bill taking them temporarily over their overdraft limit, or the loss of a job where they have now returned to full time employment. Where the borrower can demonstrate regular income and has made efforts to repair their credit, lenders are likely to view the application positively.
Although there is a price to pay, rates are still historically very low. The Mortgage Lender for example offers a 2-year tracker rate at 1.98 per cent plus Libor, reverting to 4.88 per cent standard variable rate up to 75 per cent LTV. Its 80 per cent LTV deal is priced at 2.2 per cent plus Libor for two years. Pepper prices slightly higher with its 2-year tracker rate at 2.93 per cent plus Libor up to 70 per cent LTV, reverting to a lower SVR of 3.63 per cent. Precise offers a 2-year tracker up to 75 per cent LTV at 2.94 per cent plus Libor. And Magellan, perhaps the most entrenched adverse credit lender in the market at the moment, offers a 3.21 per cent plus Libor term tracker over 25 years up to 70 per cent.
Fixed rates are also available – Pepper’s 2-year fixed rate up to 75 per cent LTV is currently priced at 3.28 per cent, Precise offers a 3-year fixed rate at 3.29 per cent up to 75 per cent LTV and The Mortgage Lender’s 2-year fixed rate up to 85 per cent LTV comes in at 3.4 per cent.
These rates are not especially expensive and it is partly that which is driving more borrowers to remortgage off SVR when perhaps they have felt that lenders’ tightening criteria since the financial crisis would have prohibited them getting a better rate. Advisers have a responsibility to revisit clients who have not remortgaged in several years – with the base rate now at 0.25 per cent and set to go even lower, there is just no excuse not to go back to clients to review the rate they’re on and consider whether they could save money by remortgaging.
Just three years ago they might have struggled, now, brokers have access to a range of lenders competing to get this business in. Even where advisers are unsure of the options available, increasingly networks will have a panel of specialists who can work with brokers and their clients or on a referral basis. Either way, there is opportunity to help clients who have suffered cash flow issues in the past rebuild their financial futures and earn a healthy income yourself in the process.
It’s a funny time to be writing about the state of the market. Several months on from the Brexit referendum and despite our new prime minister’s assurances that ‘Brexit means Brexit’, no-one really knows what Brexit actually means. The uncertainty is palpable and while it’s far too early to see whether it’s having an impact on lender appetite or property values, it’s hanging in the air and is a factor no-one can ignore.
Add to this the slew of changes to the landscape for buy-to-let and you start to realise, any comment on the so-called state of the market is not going to be definitive. That said, I do have a few observations.
Next year landlords will see the tax relief they can claim on their mortgage interest payments start to taper from a maximum of 45 per cent down to 20 per cent by 2020. Many lenders have already raised their rental income ratios from 125 per cent up to 145 per cent to accommodate this. While there are still plenty of options for landlords at 125 per cent, I fully expect these to reduce over the coming six months – especially because the Bank of England’s Prudential Regulation Authority is due to publish its new rules for buy-to-let later this year. If these are along the lines that the PRA has suggested, affordability for landlords is going to get tighter still.
All of this has implications for bridging and short-term finance. More often than not, developers using a bridge to fund short-term refurbishment projects exit into a buy-to-let. Bridging lenders are already considering this when agreeing short-term finance as the availability and make-up of buy-to-let products on the market in six to nine months’ time will materially affect the likelihood of that exit.
I don’t believe these shifting dynamics automatically mean that bridging availability will reduce but I do expect there to be changes. Some lenders may look to rebalance the types of deals they approve as they adjust and understanding how their appetites fluctuate is going to be key for advisers who need to get deals done quickly.
A more mature market
I’m slightly reluctant to talk about negative rumours flying around for fear of talking the market down – I think sometimes we are our own worst enemies. That said, there are a number of potentially damaging rumours that I think should be addressed head on. It is no secret that a number of specialist lenders in the market are turning away more deals than they used to and there is talk that funding lines have been pulled by some of the larger banks.
Whether or not the rumours have foundation in fact, I think it’s important we remember just how far this market has come in the past decade. Yes, some specialist lenders are backed by bank funding lines. But there are also many specialists that have far more diversified funding sources. Both Shawbrook and Precise Mortgages have access to retail deposits to finance new lending – a source of finance that has really opened up specialist lending and made short-term finance much cheaper for developers.
Additionally, the market also has lenders backed by both private and institutional investors such as West One, LendInvest or LandBay to name just a few. We should not forget that there is a wide selection of options for clients looking for short-term finance and that the market has matured significantly in recent years. Lenders have learnt from mistakes made in the past and no longer rely on just one source of funding.
Providers’ appetite to lend may ebb and flow but for advisers the important thing is being able to find an appropriate solution for clients. Thankfully, the short-term market is now substantially diversified and broad enough to ensure that there are always options for well-packaged deals that make commercial sense for both the borrower and lender.