Back to basics on non-bank lenders, payment holidays and lending difficulties
Paul Brett is managing director – intermediaries at Landbay
There is much talk about the challenges facing some non-bank lenders, but why is it that they are finding it so hard to lend? So hard in fact that a consortium of lender trade bodies: IMLA, UK Finance and the Finance Leasing Association (FLA) felt compelled to write to the Treasury and Bank of England officials asking for help for their members.
There is a lot of assumed knowledge that brokers understand the difference between different types of lender, how they work and where get their money from, but many people don’t know this information in depth, so let’s go back to basics.
Banks, and ‘non-bank lenders’ get their funds from completely different places. To understand this, we also have to look at exactly what a bank is.
This might sound obvious, but at its simplest, a bank is typically an institution that will take deposits and savings from retail and company deposits. Banks will then use some or all of those deposits to lend via different types of products such as residential and buy-to-let mortgages.
In contrast, non-bank lenders don’t operate current accounts or take deposits. As non-bank lenders no more have a money tree in their back garden as do you or I, they have to get the money they lend out from somewhere else.
This is typically from the money markets or institutional investors, look at it as a retail shop going to a wholesaler to purchase its stock in a large quantity to then sell to its customers.
This may mean a lender borrows from pension funds, investment funds or bigger banks. As we saw in the credit crunch, even councils and governments may invest in property funds through non-bank lenders.
Why this is particularly relevant at the moment is because of the government announcement about payment holidays. When the government announced on 17 March that every residential mortgage holder struggling to pay their mortgage because of COVID-19 could have a three-month payment ‘holiday’ they also put another measure in place.
This was the Term Funding Scheme (TFS). This made £10bn available to banks at very low interest rates for the next four years, so that the banks could call on cheap funds if they needed to. This provided them with the money to fund the payment holidays.
Two days later, on the 19 March, the government announced a similar measure for landlords, so they didn’t have to evict tenants having payment difficulties due to the coronavirus.
Done with the best intentions, this measure predominantly affected the non-bank lenders, only there was no Term Funding Scheme for these lenders.
This meant that any non-payment by borrowers, is funded almost entirely by the lenders’ institutional funders. This hugely increased the risk to the funders of lending to non-bank lenders.
It is because of this that we saw many buy-to-let and bridging lenders pull out of the market and quickly stop lending.
Because of the increase in risk that they may not get their funds returned, the cost of funding from capital markets went up significantly.
Many lenders also get funds from selling on their loan books through securitisations, but the securitisation markets closed almost as soon as the payment holidays were announced, as nobody wanted to buy say £100m of property loans where the borrower may not pay back the money that they owe. As a result, many lenders had to stop lending.
Ultimately, no-one quite knows what the extent of the payment holidays will be – it is believed that some lenders have already had more than 30% of their borrowers apply for them.
We also don’t know how many borrowers will then resume their payments, which will then be at a slightly higher level, or how many will fall into default.
So for non-bank lenders, not only are they taking the hit of a higher cost of funding in a down market where there are lower levels of new business volumes, but at the same time maybe up to 30% of their borrowers are going to be taking a three month payment holiday which will also impact their cash flows.
As a result, some lenders immediately sat back and stopped lending in order to protect capital to some degree, and to ensure that they could both fund the payment holidays and continue to fund the loans they already had in their pipeline.
This is the reason that the three trade bodies have written to the government asking them to provide non-bank lenders with access to the Term Funding Scheme, so that they are not reliant totally on the whims and risk appetite of the capital markets but can open their doors, continue lending and help get the economy moving again.
Next article, why are LTVs dropping and rates rising in such a low interest rate environment…