Irish Mortgage Brokers Blog

Below is a press release from the Financial Services Authority in the UK. This is how they deal with executives who cross the line, while we can praise reform in Ireland it is clear to see that we do not come anywhere near the standards set in the UK when it comes to discipline in the market, while over 90% of complaints are against banks, they have the fewest sanctions and yet this is the same banking system which nearly pushed the nation over the edge. The people in charge now are the same people that lead us here and it is shocking that we laud ‘new regulation’ when in fact we are still behind the times.

It is becoming evident that our own banks may have not been totally forthcoming in how they presented their own statements of affairs in the past, will similar sanctions therefore follow?

SA/PN/126/2010

27 July 2010

FSA bans and fines former Northern Rock finance director £320,000 for misreporting mortgage arrears figures

The Financial Services Authority has fined David Jones, former finance director (FD) of Northern Rock PLC (NR) £320,000 and prohibited him from performing any function in relation to any regulated activity [emphasis mine].

Jones’s misconduct started in mid January 2007 when he agreed, along with David Baker (former NR Deputy CEO), to allow false mortgage arrears figures to appear in explanatory text published with the 2006 annual accounts. Reporting correct figures would have either increased arrears by over 50% or possessions figures by approximately 300%.

For nearly a year, Jones was responsible for the continued misreporting of arrears and possessions figures on a monthly basis to NR’s assets & liabilities committee (ALCO) and, on a quarterly basis, to the Council of Mortgage Lenders (CML).

Margaret Cole, FSA director of enforcement and financial crime, said:

“Even though other senior directors within the firm were involved in the misreporting of arrears and possessions figures, as a senior director himself and as an FSA authorised person, Jones had a duty to reveal the true position to the public and to important internal committees. He had numerous opportunities to put things right, but failed to do so.

“This is a message to all FSA approved persons, that they must take their individual responsibilities seriously at all times, or suffer the consequences.”

Background

From 2005, NR staff were under pressure to report arrears figures at half the CML average. To achieve this, a series of improper actions were taken which were outside NR’s stated policy. For example, cases where a possession order had been made against a property, but where physical possession had not yet been taken (pending possessions cases) were excluded from all arrears and possessions figures. Although Jones was not involved in the actions that gave rise to their existence, by January 2007 1,917 such cases had been omitted.

Jones was FD (designate) between 10 January 2007 and 1 February 2007. During this time, David Baker informed him of the existence of the pending possessions and asked whether they impacted the firm’s stated provisions for bad debts. Jones assured himself that the provisions were correct and agreed not to reveal the pending possession cases.

As FD from 1 February 2007 to 22 February 2008, Jones was responsible for the debt management unit (DMU) and the credit management information unit (CMIU) at NR. Amongst other things, these units were responsible for reporting arrears.

Jones received a 20% discount for settling in Stage 2 of the FSA’s executive settlement procedures. Were it not for this discount, Jones would have been fined £400,000.

Trinity Economist Kevin O’Rourke received a lot of attention recently which centred around a paper he wrote with Agustin Benetrix and Barry Eichengreen that featured on VOX.

The Sunday Tribune picked up on it with the headline ‘House price fall could be worst in history‘. Fairly powerful statement that! Kevin O’Rourke is a man who I personally have a lot of respect for (an example of his work is in a talk he gave to the CFA last year here) so we were delighted when he kindly took a call today while on a working holiday in France.

My questions are in bold, the main thrust of his answers follow them.

You say a rapid adjustment would be best, what can be done to facilitate that?
“You have to start by wondering ‘do we think the Irish adjustment is rapid or not?’. In general one thing that comes out of international experience is that property prices are quite sticky downwards, vendors take property off the market and new properties stop being built as well. Can policy speed price falls up? I’m not sure, but you don’t want to have policy that slows them down, that much is for sure”.

Should we therefore get rid of TRS? That is just a Government/fiscal incentive toward home ownership right?
“First it might be better to at least get rid of the asymmetric policy of subsidizing home ownership but without property taxes”.

Does restrictive credit therefore help as opposed to hinder the adjustment? If a rapid journey towards a bottom is a good thing?
“Statistically – the more credit is available the more likely it is that the market bottoms out, and the more prices fall the more likely it is to bottom out. We didn’t think about the possibility of restricted credit speeding up price decline, which may get us to the bottom faster. Increasing rates will have a downward effect on prices, reduced credit availability the same. On the other hand they may be helping by allowing the bottom to be reached faster”.

How much further is required (from the index of average prices) to hit bottom?
His opinion – “I agree with Morgan Kelly. In particular there is a total disconnect between rent and prices. There is one property I saw in Dublin recently that had a renting price of €4,000 per month but an asking price of €3.8 million!” (that’s a 1.3% yield if you are wondering).

If our GDP issues are affected structurally (in terms of decreased government spending) and not just by the business cyclical then how will that affect housing?
“One thing that would help for house prices is a resumption of growth, but I think that the ESRI projections of last week were optimistic. Their low growth scenario is perhaps somewhat of a high growth rate when you look at Ireland, I don’t forecast on that topic but if you want to look at different scenarios you could be more pessimistic, there are worrying indicators coming out of the States, the Baltic Dry Index is lower”.

“Austerity across Europe hasn’t kicked in yet. We are committed to taking more out of the economy every year for the next 2-3 years. The British housing market is also back into decline”. The main reason he thought the ESRI was too optimistic was their growth figures of c. 3% over 2011-15. Per capita growth in the USA over the last 100 years has been a little more than 2% per annum. There were ups and downs but on a smoothed basis 2% per annum is about right. You can grow faster when catching up, as we did in the 1990s, but once you’ve caught up on the technological frontier 2% is about as good as it gets per capita.”

Do you think that if we cut deep and hard enough that we could make anaemic growth look good? That it would perhaps represent 2+%?
“That is quite cynical… Something like that might occur if you cut very very deep, output collapses even more, and once that stops you get a bigger rubber band effect. I’m not sure why you’d want to do that. Furthermore, other issues also suggest low growth in the future, for example unemployment – if it lasts too long it can make it difficult for people to get back into work”.

How will rate increases by lenders affect the market? Given that the value is not being passed or maintained, and that banks are actually capturing the value in the market?
Higher rates would have a downward effect on prices, and our results show that low rates affect the probability of bottoming out positively. It’s a crude correlation, the lower the real interest rate the more likely it is that the market bottoms out. Interest rates are going up meaning we can expect an acceleration in housing price deflation.

Any plans to stop renting?
No.

What parameters did you use in the calculations? Where are the weaknesses in your calculations
“Perhaps we haven’t adequately accounted for the five core variables interacting with each other to the degree that they might have, they were actually viewed as being somewhat independent”. The calculations were based on a group of countries including Ireland and then the average results were applied to Ireland, as opposed to being based on Irish experience alone.

“We took conditions in other countries: the regressions looked at what correlated in those countries with the end of housing slumps, and what we found was that the higher was GDP growth and credit growth, and the lower were rates, the more likely it was that the slump stopped. Smaller prior bubbles and larger price declines during the slump had the same effect. Our approach was a binary yes or no one: did the slump end in a given quarter? Monetary policy is factored in (via real rates and credit availability).
Why do different countries bottom out?

“Different countries bottomed out for different reasons. In the States there’s a 1 in 8 chance of a bottom, and there is a 16% chance in Japan and  in Germany. In Germany this is based on the bubble not being too big to begin with, in the US and Japan it’s due to the very large price decline to date, low rates and signs of higher growth . But remember: one in eight is less than one”.
ENDS

Youtube version of the clip available here

A recent report by Moody’s pointed out that increased negative equity will cause a rise in arrears. The commentary surrounding this (in Ireland) takes the view that correlation is not necessarily causation. That people in negative equity won’t automatically go into arrears unless they cannot pay, that negative equity of itself is only an issue if you lose your job or have to sell. This is a valid opinion but it ignores the operational aspect of a household in respect of the way that they react when financial difficulty occurs.

There are several hundred thousand households in negative equity, and about 35,000 in serious arrears, how many of those people would not be in arrears if they were not in negative equity? The answer is: how ever many would have sold their house as a solution.

The first thing many people do if they know they are going to be headed for a situation where they stand no chance of paying their mortgage is to put their home up for sale, in the past this simple act disqualified you from receiving mortgage interest supplement (MIS), and that has thankfully changed, but you can’t put your house up for sale when you are in negative equity because the sale will not clear the mortgage and in many cases the bank will prevent this from happening. They will instead push for full repayment of the debt, an application for mortgage interest supplement and while this happens the individual goes further and further into arrears.

In the past the majority of people had some equity in their home, and that meant that arrears might eat into the equity, and if they decided to sell then they would be out from under the debt and the arrears. However, this is no longer happening, which is why 21,000 households are more than 6 months behind in payments and a further 7,000 have not made a payment in a year. They are stuck where they stand and little can be done about it.

And that is the way in which negative equity and arrears are perhaps more closely tied to one another than we often hear about, where one actually can cause the other.

Youtube version of the clip is available here

Prime Time did a show on the 15th of July about Negative Equity. Michael McGrath, Fianna Fáil, and Karl Deeter, Irish Mortgage Brokers, discuss the situation facing homeowners in negative equity

15:48 At 16:00 the press release about PTsb increasing rates will be released.

Had the company waited another week the headline ‘third time in a year’ would not have applied. It was this day last year that PTsb first increased rates on their variable clients by 0.5% or 50 basis points, it was a ground-breaking decision at the time, they were the first institution to do this and it opened the floodgates for every other bank to follow suit. PTsb were not in NAMA and they made their case, but it was rapidly criticised (in particular by Gerry Ryan who very decently gave the affected consumers a platform on his show).

The average mortgage balance in Ireland is €230,000 this time last year when the applicable rate was 2.69% the repayments would have been €1,053 per month on a 25 year mortgage. In the three rate hikes (totalling 1.5%, bringing the standard variable to 4.19%) the repayments will rise to €1,238 which will mean a total of €185 per month or €2,220 per year of additional cost to affected households.

If a person with the average mortgage was on the average industrial wage this has the same net effect as taking a €3,000 pay cut, which has arisen due to mortgage servicing costs.

This move will affect 38% of the banks customers which translates into 80,000 households, which represents a loan book of c. €5.3 billion. The 1.5% increase since last year should yield an additional €80,000,000 to the bank.

The EBS increased rates last week, and another has followed suit within days, showing that once again, banks are taking each others lead when it comes to jacking up the prices that consumers must pay. All of this money will disappear into the financial system and put further deflationary pressures upon the economy. We can expect no reaction from our Regulator and zero protection from further increases by other banks. At least Dick Turpin wore a mask.

Two things I love about this, firstly I love Chicagoans, and secondly (sadly) I love PBR, when I was on holiday in Florida this year I brought a case to a BBQ and instantly made friends (unknowingly it was being hosted by a load of cheese-heads!). Not often can you obtain an accolade for such poor taste in refreshment!

Great video for seeing the difference between something that causes movement on the demand curve versus a move in the demand curve.

Sometimes talking about present values, par and yield to maturity will catch even a well versed practitioner off guard, but to see a pricing model in action helps and that is precisely what this video does - in this clip an assumed future rate is discounted into present values and we arrive at the bond price. Well worth watching (twice!).

EBS have announced a rate hike of 0.6% which is a follow on from their last 0.6% hike that was levied against variable rate mortgage holders on the 1st of May, this brings their margin increases to a total of 1.2% for the year to date.

Today’s Indo lead with this story (by Charlie Weston) and rightly pointed out that by the time this is over, a person with a €300,000 mortgage over 30 years could expect to pay just over €3,000 a year (after tax) in increased mortgage payments. For a person on the average industrial wage this is like a full months wages before tax being sucked away by the financial system. Tax hikes and wage cuts aside, this will ultimately reduce the money that is being spent in the economy and it will disappear into the financial system where banks will use it to de-lever further.

The contention for many people is that they are being punished, not for what they have done wrong, but for what they have done right, the people who will see their loan payments increase are those who have performing variable rate mortgages. The increases are threefold, firstly is to cover the cost of funding that EBS and other banks are facing, a large part of this is down to the institutional decisions that they made. Secondly you have the people in arrears who’s impairment costs are affecting the cost of funding to the institution as well as decreasing the operational income the bank can obtain. Lastly is to subsidize the tracker mortgage holders whom the banks mistakenly lent to at rates that are (as it turns out) not commercially viable.

What can people do? Very little, personally, if I was an EBS member I would withdraw all of my savings from them immediately, banks have two sides to the balance sheet, one is lending (assets) the other is deposits/funding (liabilities), and while reducing liability might be a good thing for most companies, in banking it doesn’t work that way, they need those deposits in order to fund loans. Removing deposits from a bank when they make a decision that adversely affects you is really the only thing a small person can do in response to the institution.

Economically we have a concern that rate hikes will ultimately prove to be a deflationary force on the Irish economy, and there is little that can be done to stop this, the Financial Regulator has made it clear from the past that they will not intervene on prices, the Department of Finance is taking the same approach. However, these rate hikes are taking away the same income that the state needs to survive on and will push many people into financial difficulty and out of the effective tax net. For the average worker €3,000 a year is almost 10% of their income, if there was a 10% of income addition to income taxes there would be a revolt, but not so when banks hit their customers, people are acting irrationally and we don’t understand why.

The banks set to follow (according to the article) are AIB, BOI, PTsb and INBS. We had predicted a 100 basis point increase in 2010 starting in Q1 by 50bps followed by a further 50bps later in the year with a final 50bps in 2011, this has proved to be quite a prescient prediction (and one we wish we could have been wrong about!), but it isn’t one that people have to be powerless about, do your talking by changing your mortgage to a different institution or moving your deposit, change your credit card provider (if it is via your bank) and switch your life and home insurance (where appropriate). Consumers are only able to be victimized to the extent that we allow banks to get away with it.

Legendary Behavioral Economist Dan Ariely presents a piece about trade off’s between instant gratification versus long term gratification, reward substitution, cheating, trust/revenge, global warming, executive pay and many other fascinating topics. This video is fascinating and for me is a real insight into the psychology behind economics that is so often over looked in classical economics. This is explained in simple terms that we can all understand and relate to, hope you enjoy!