Housing Conference 2015 on
“Affordable Housing & Housing Finance”
State Bank of Pakistan, May 28-29 Islamabad
Mortgage Refinancing Facilities:
Value Added, Conditions of Success
Olivier Hassler
Housing Finance Adviser
ohhfinance@gmail.com
1
Introduction


One of the instruments linking mortgage lenders to capital
market
Exists in numerous countries, in co-existence with other instruments in
developed markets:







USA the pioneer (1932) – Federal Home Loan Banks
In the MENA Region: Algeria (SRH), Egypt (EMRC), Jordan (JMRC),
Palestine (PMHC), KSA in preparation
In Asia: India (NHB), Indonesia (SMF), Malaysia (Cagamas), Mongolia –
now Pakistan
In Europe: Austria, Switzerland, France, Armenia, Ukraine
In Latin America: Mexico, Jamaica, Eastern Caribbean Federation
In Sub Saharan Africa: Nigeria, West African Economic and Monetary
Union, Tanzania
What explains such a broad application of the model in very
2
different contexts? What has worked and what has not worked?
Structure of the Presentation
I.
The Model and its Benefits
II.
Cases Studies
III.
Key Options and Conditions of Success
3
I. THE MODEL and its BENEFITS
4
Definition of a MRC

An second tier institution that provides funding to
housing finance lenders

Acts as intermediary between lenders and
capital markets

Issues bonds to raise long term finance

Lends against collateralized portfolios, or
purchases loans with recourse
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MRCs must not be confused with other models
1.
Fannie Mae / Freddie Mac model

Credit risk transferred to the second tier entities, with no
recourse against the originators..
 .. and de facto assumed by the government
 Ambiguous PPP model (rent seeking behavior from private
shareholders)
2.
Central Intra-group funding entities

apex organizations (e.g.of cooperative banks networks)
 Spain Ahorro y Titulos structure for savings and loans –
Central Covered Bonds issuing structures that buy securitized
mortgages from local S&L (cajas)

France 3CIF – basically similar to AyT
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Functions and Benefits of MRCs
1. Lower funding cost vs issues by individual lenders

scale effect

prime standing (low risk profile) – and regulatory recognition


limited intermediation cost
Potential for market liquidity (simple securities, large issues) – and
regulatory recognition
2. Enhance market diversity and competition

Support to non-deposit taking specialized lenders
Support to small FIs that have difficulties accessing capital market
Example: US FHLBs and community banks / credit unions

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Functions and Benefits, Ctd
3. A simple and secure investment vehicle for capital
market investors
Straight forward securities , simple to value
No data bases , performance history or sophisticated valuation tools
needed - unlike securitization
 Secured by the solidarity between users, capital requirements,
collateralized refinance loans
 Simplicity + security+ size = better market liquidity

4. Promoter of the mortgage market soundness through its
eligibility criteria :
 Lending quality requirements
 Capacity of primary lenders
 Solvency of primary lenders
=> a quasi supervisory impact
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Functions and Benefits, Ctd
5. Short term Liquidity Provision and Countercyclical role:

Temporary liquidity shortage during the life of long term loans.
Ex: India NHB : long term loans to specialized institutions, but 2/3 year
loans to commercial banks

Support in stressed situations : next-to-last resort lenders Ex.:

Cagamas in the 1998 crisis (market share up to nearly 40%)

FHLBs during the 2007-2009 financial crisis

France CRH during the 2007-2009 financial crisis :
New Refi.
Loans (€ bln)

2004
2005
2006
2007
2008
2009
2.6
3.0
7.7
8.3
7.4
5.1
NHB in 2009 /2013 (liquidity crunch due to the tightening of the monetary
policy)
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A counter-cyclical Instrument
FHLBs Advances outstanding –
Billions $
French CRH Refi. Loans
outstanding – Billions €
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Opposite to Securitization, which is a procyclical instrument - European markets example
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II A FEW CASE STUDIES
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Jordan JMRC - Presentation




Created in 1966
Structure: capital held by banks and government agencies: the
Central Bank (18%, the Governor being the chairman of the Board),
Social Security Corporation, Housing agency (HUDCO)
Regulation: not subject to banking prudential standards
Operational model



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Refinance loans secured by portfolio
Quarterly NPLs replacement
Overcollateralization: 120%
Specific advantages:


JMRC funded loans: lighter provisioning obligations, 20% risk weight,
excluded from the general 20% deposits limit set for real estate loans
JMRC bonds: if held by banks, 20% risk weight, eligibility to liquidity ratio
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Jordan JMRC -
Activity: positive impact phase
(multiplication of lenders), followed by a decline.
Refinance loans: 150 mln JD (210 mln $) outstanding end 2012
Bonds maturity: 2/3 1 year, 1/3: 3 year
New production
Source – CBJ, HUD, JMRC, WB calculations
800
700
600
500
400
300
200
100
0
2004
2005
2006
2007
2008
2009
2010
2011
JMRC refinancing granted [JOD MM]
JMRC bonds issued [JOD MM]
Jordan mortgage originations [JOD MM]
Jordan islamic HF originations [JOD MM]
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Jordan JMRC – Issues and obstacles

Banks‘ Loans-to-Deposits ratio = 55%

Little regulatory incentive for banks to reduce A/L mismatches
(long term = > 1 year for prudential purposes)

Fast growing Islamic Housing finance (Ijarah), but no JMRC
Islamic refinance product (4 Islamic banks, 1/3 of housing finance)

Underdeveloped Capital market: 44 % GDP, 84% government bonds,
1 significant investor beside banks only (Social Security Corporation), short
maturities, very recent Sukuk Law (Dec 2012)

Some cumbersome procedures:


Transfer tax exemption for mortgage deed loan by loan
NPL removal from pledged portfolio (loan by loan manual de-registration
and new entry in the land registries)
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Algeria SRH

Created in 1997 as part of a broad reform of the housing finance
system ailed at liberalizing lending thanks to new instruments (mortgage
insurance, demand side subsidies, developers’ guarantee fund)



Structure: 30% government, 70% banks (all public)
No prudential regulation
Operational model: refinance loans with recourse, or loans purchase
with no recourse ( but compulsory mortgage insurance if LTV > 60%)

Activity:

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Difficulties to deploy the business model from scratch, despite SRH’s
steady efforts to develop the primary market
2 bond issues, now repaid
Mortgage refinancing activity quasi interrupted, focus on SME finance
(refinancing of real estate leasing)
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Algeria SRH – Issues and Obstacles

High liquidity of the banking system:


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Little interest rate risk (internal cost of funds based adjustments)
Structure of the housing finance market:
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Credit to the economy / deposits = 68% (2011)
Liquid assets = 50% of banking assets
The traditional, and still by far the main, housing lenders, CNEP
Banque, is a huge savings collector, directly ( national savings bank)
and indirectly (postal network)
Predominance of state led and subsidized programs, funded by
government or CNEP
In the remaining compartments, large share of cash investment –
reflecting in particular a large informal economy
Very underdeveloped bond market
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Case Study: Egypt EMRC

Created in 2006, operational since 2008, as part of a broader set
of reforms (titling system, promotion of specialized mortgage lenders,
reform of the subsidy policy)

Structure: majority ownership by using FIs, participation of the
Central Bank (Dy Governor chair person of the Board) and IFC

Regulation: capital adequacy requirements (leverage ratio: 9:1)
oversight by the specialized mortgage lenders regulator (now
integrated in the EFSA)

Operational model: refinance loans with recourse, 120%
overcollateralization

Specific advantages:


lowered provisioning requirements on refinance loans
bonds: tax exempt and eligible to banks’ liquidity ratio
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Egypt EMRC

Activity :


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Activity and Issues
about 15% of the mortgage stock
Vast majority of refinance mortgages to low income households –
operations combined with the new demand side subsidies scheme
(national Housing Program, which requires fixed rate lending)
12 active lenders vs 3 initially
But no bonds issued, a constraint on business expansion
Issues and development obstacles

Weaknesses in the market infrastructure despite progress made titling in particular

Real estate price increase

Mainly: Consequence of the January 25th Revolution and political
turmoil since then – Bond market basically closed
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III. 5 CONDITIONS OF SUCCESS
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Contextual conditions

Housing finance market : early stage, but existing


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Development has started
Potential to develop further on a robust basis:
 Housing demand: effective, unsatisfied, growing
 Lending system: possibly small, but credible FIs, shortage of
liquidity, ALM mismatches
 market infrastructure: reliable (mortgage law, land registration
system)
Adjustment to market structure – e.g. Sharia compliant refinancing product
Capital market



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Functional infrastructure
Effective institutional investor base
No crowding out by government debt
Availability of a reliable yield curve for at least medium term maturities
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Features of refinanced portfolios (Cover Pool)
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Sound underwriting norms: a critical eligibility criteria
NPLs treatment
Fair value matching

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The market value of the pledged portfolios must be enough to repay
the securities in case of execution of the lien and sale of the portfolios
Prepayment of refinance loans: pricing based on the MRC’s cost of
purchasing back its own securities
Overcollateralization

Rationale:



possible deterioration between periodic replacement of NPLs
possible market value discrepancies
Limit: a type of secured lending that implies the subordination of the
primary lenders’ ordinary creditors – A major issue between FHLBs and
FDIC in the US.

An acceptable level: 20% to 30%
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Credit & Operational Relationship with
Primary Lenders

No credit risk transfer to the MRC : a common principle:
Portfolio can be purchased (ex. Cagamas), but with recourse against
the originator in case of delinquencies

Supervision and compliance checks : a major component of
the MRC’s activity

Effectiveness of security arrangements


Unambiguous legal treatment of pledged portfolios in case of a
lender’s bankruptcy
Pre-set arrangement of execution (e.g. back-up servicer)

Operational simplicity

Intermediation cost as limited as possible (lean monoline,
wholesale institution)
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Governance

Capital structure

Not primary a profit seeking entity – counter-exmpale of 2 FLBS of undue
risk taking during the US market overheating

Risks of government control to mitigate

Cooperative structure: way to ensure the corporate goal while
neutralizing the intermediation cost and strengthening the credit profile of
the MRC

Safeguards however required against 2 temptations:

Exclusive club  MRCs must be open to all lenders, incl. newcomers

Predominance of main users in the decision making process 


refinancing decision to be made by the structure, not the Board
cap on voting rights
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Regulation & Supervision

Regulatory oversight: Prudential norms and supervision needed to
comfort investors’ confidence

Low risk profile to be recognized through specific treatment

investors’ prudential regimes of MRC’s securities :



MRC’s prudential regime:



Ordinary concentration risk limits generally inadequate
Leverage ratio does not fit the standard MRC business model
Higher market liquidity to be recognized


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Adjusted risk dispersion standards
Lowered risk weights of for banks’ capital adequacy requirement
Banks’ liquidity ratios – e.g. CRH’s bonds = tier I HQLA for the Basle III LCR
Eligibility to Central Bank repos
Bond issuance procedures: to facilitate frequent issues and their
fungibilty (tap issues, shelf registration, master issuance memorandum)
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