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BFCSA investigates fraud involving lenders, spruikers and financial planners worldwide.  Full Doc, Low Doc, No Doc loans, Lines of Credit and Buffer loans appear to be normal profit making financial products, however, these loans are set to implode within seven years.  For the past two decades, Ms Brailey, President of BFCSA (Inc), has been a tireless campaigner, championing the cause of older and low income people around the Globe who have fallen victim to banking and finance scams.  She has found that people of all ages are being targeted by Bankers offering faulty lending products. BFCSA warn that anyone who has signed up for one of these financial products, is in grave danger of losing their home.


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BFCSA: Deloittes Report into Australian Mortgages 2005

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Dirty campaigns to attract Asset Rich Income Poor pensioners was promoted by Major Banks in 2004..........its all coming home to roost.  Three years prior to the American investors have rang asking this obvious question: How did our banks keep the same deceitful LIAR Mortgage LOAN model rolling forward and riddled with fraud....for so long?

 The Australian Mortgage Industry At The Crossroad - 2005


 Interesting times in the mortgage industry.


The dynamics between direct franchising and third party distribution loom large; consolidation choices in the increasingly influential brokers’ domain are yet to finalise.  Regulation and risk management tighten the landscape. And overall the competition around retention and sales is as fierce as ever and continues to keep margins under pressure. All are key strategic factors for the industry.  For these reasons we title this first in the series of Deloitte’s points of view on The Australian Mortgage Industry – At the Crossroads 2005.
In our overview ‘As mortgages go: so goes the nation’ the adage has never rung more true in a $200bn industry which touches the pocket of all Australians.  This is the sector where so many of Deloitte’s clients operate banks, non bank lenders, mortgage managers, brokers, non conforming lenders, securitisers, mortgage insurers and so on.  I commend this thinking to you and trust you enjoy its comment and find it of value.


Mortgage: From the old French ‘mort’ and ‘gage’ – pledged till death.

The great jurist Sir Edward Coke, who lived from 1552 to 1634, has explained why the term mortgage comes from the Old French words mort, “dead,” and gage, “pledge.” It seemed to him that it had to do with the doubtfulness of whether or not the mortgagor will pay the debt. If the mortgagor does not, then the land pledged to the mortgagee as security for the debt “is taken from him for ever, and so dead to him upon condition, &c. And if he doth pay the money, then the pledge is dead as to the [mortgagee].” This etymology, as understood by 17th-century attorneys, of the Old French term morgage, which we adopted, may well be correct. The term has been in English much longer than the 17th century, being first recorded in Middle English with the form morgage and the figurative sense “pledge” in a work written before 1393.


Page 4          As mortgages go – So goes the nation
Page 7          Food for thought
Page 8          Mortgage broker consolidation – Who will be the acquirers?
Page 11        Mortgage retention – A bird in the hand   -  11
Page 13        Mortgage fraud – An evolving industry is creating its own risks
Page 15        Securitisation after IFRS – Phoenix or dodo?
Page 17        Basel II – Winners and losers
Page 19        Lenders mortgage insurance – Considering the facts
Page 21        Reverse mortgages – Understanding the risks
Page 23        While our backs were turned – Over regulation in financial services


pages 4 - 6 ..................The mortgage industry is at a cross roads...........  To deal with these elements the industry requires new skills and competencies, bringing them together in new combinations. And, while these skills and competencies may be borrowed from other segments of the financial services industry, it will take concerted effort and discipline to apply them effectively to the mortgage industry...................Regulatory change – far reaching................Do the new regulatory frameworks designed to capture and.‘manage’ the risk profiles of different businesses, also succeed in.changing the risk profile of those businesses? As big banks implement IRB, are they, in fact, changing the risk profile of the.businesses they model?..................The mortgage industry has two special features. It is an earnings engine for the financial services segment of the economy. Importantly, too, it is a mechanism that allows the community to buy into the ‘Australian Dream’. Keeping it vibrant and relevant is important to everyone.


page 7   .................Competition in lending against residential property will continue to intensify. New participants and innovations in lending products will also influence the marketplace.  Mortgage managers and sub-prime lenders will grow their mortgage finance share. We will see more equity release loans, high LVR loans, low-doc loans and split-purpose loans in the product suites of lenders.


Pages 8 - 10 .............The evidence suggests that mortgage settlements almost doubled in value from $86 billion in 1998 to around $200 billion in 2004. During this period, lenders significantly increased their share of written loans through broker channels in some cases by up to one third...............Independent brokers are facing increasing competition from banks which are beginning to establish their own franchised broker network viz ANZ and CBA. Banks are also increasingly choosing to deal with the aggregators – those brokers that meet volume targets.  In combination with the impending downturn in the housing market, these strategic competitive dimensions will likely result in lower commission levels which in turn will cause brokers to scrap over the lesser volumes. ..............Brokers will incur costs to comply with what we believe will be the inevitable regulation of the industry. In addition, information technology costs will increase as lenders continue to insist on electronic interface............Survival will clearly depend on having the scale required to weather increasing competition and increasing costs. Only consolidation will solve these two brewing storms. These and other issues facing the industry will create a far more challenging environment in the short term..................Conclusion..............Within the current landscape of the financial services industry, there is a war being waged for distribution. Not only is there profit margin in distribution, but through distribution comes access to the customer. We believe that the concept of ‘he who distributes, owns the customer’ means additional customer power is on offer to the bank that is willing to be bold and utilise its financial planning arm to make a play for a large mortgage broker.


pages 11 - 12  ............Perhaps it is because ‘new loans’ into the market over the last five years have been around 45% pa of outstanding home loans in the system, that lenders have had their key performance indicators biased towards market share.  However with ‘run-off’ rates at around 30% pa over the same period, expressed as a percentage of opening year loan balance, the focus on sales to improve performance rather than strategies to improve retention cannot be sustained..............retention campaigns should be started now – when the portfolio is aged between 7-12 months. This is the time that customers are coming through the initial phase of their loan and may be at a stage to reassess financial commitments. ....................GLM techniques have considerable application to mortgage portfolios. They can focus retention efforts on genuine factors rather than on factors that appear important but are not the underlying cause. This will optimise the chances of retention campaigns, as well Financial benefits of improving retention...........a bird in the hand is worth two in the bush


pages 13 -  14............Whilst criminals are generally increasing their sophistication and mobility, the drivers behind an apparent growth in mortgage related fraud in Australia are linked to the underlying and changing conditions within the industry itself. When you think about some of the changes to the industry, it is not surprising to see the level of inherent risk increase.............In parallel, the control and regulatory environment has not moved at the same pace. A further factor to consider is that over the last five years, most financial service organisations have focused their fraud control efforts on products that are traditionally more susceptible to fraud including credit cards, unsecured lending and transactional accounts. There is a likelihood that this may also have influenced a displacement of fraud to less controlled products such as mortgages..................Common control failures:
• poor verification and valuation policies
• limited or no segregation of duties between sales staff and verification staff
• limited on-going broker accreditation and monitoring processes
• poor training of sales and verification staff
• staff incentive schemes based purely on sales volume.............



pages 15  - 16..............Australian RMBS issuers have recently flocked to the US and European markets with significant mortgage backed securitisation programs to take advantage of historically low interest rates and the seemingly endless appetite for that paper.  Underlying this surge in activity are concerns in the industry about the viability of future mortgage backed securitisation structures. The concern is around the potential changes in accounting as a result of Australia’s planned adoption of International Financial Reporting Standards (IFRS) in 2005.  The main changes.............The main accounting changes are two fold:
• firstly it will be harder to remove securitised assets from balance sheets
• secondly many current securitisation structure may require consolidation.

For many players in the market, having to keep assets on balance sheet or having to consolidate securitisation vehicles will impact ratios but will not significantly impact on their operations.  Banks, being regulated, must carry certain levels of capital which, amongst other considerations, are based on ‘on-balance sheet’ assets. Having to consolidate existing securitisation vehicles would result in those banks carrying significantly more regulatory capital.  APRA in a 2004 letter to banks stated that it will not make any changes to the capital framework until at least 1 January 2005................ ANZ is aggressively pursuing a franchise model as are RAMS and others. It works when there is a strong brand name,.......Strength still lies in the numbers.............. As to whether securitisation and particularly RMBS securitisation will be dead post Australia’s adoption of IFRS, the answer is clearly no.

pages 17 - 18...........In the Australian context, there are a number of issues to consider at the same time as the introduction of the Basel II requirements, which include:
• Pillar 2 requirements of the Accord – the APRA position will be critical to the Australian market outcomes in relation to the Accord
• market conditions in the Australian housing market – the potential for interest rates to increase from record low levels, is leading to significant focus on the resilience of Australian banks to changes in the housing market.
Although APRA has not yet published its detailed guidance in relation to capital requirements under the new Accord and the Pillar 2 position for Australian banks remains unknown, in September 2004, APRA noted it accepted that some capital requirement reduction could be expected due to the structural differences between Australian banks’ portfolios and those of international counterparts. In particular this reduction would be in relation to the relatively high proportion of retail mortgages in Australian bank portfolios.  In May 2003 APRA noted a number of key points in relation to the implementation of the Basel requirements:..........At the same time as banks contemplate the changes to Basel capital requirements, they are also dealing with the introduction of IFRS provisioning requirements which are expected to introduce additional volatility to balance sheet provisioning for all products, including mortgages. The distinction between balance sheet reporting and regulatory capital requirements is increasingly important in this environment...............With average mortgages weighting at around 20% for banks under the IRB approach but 35% weighted for banks under the standardised approach, this can lead to potential pricing differences or result in lower profitability for those under the standardised approach....................


pages 19  -  20 .............Lenders mortgage insurance (LMI) covers the credit risk of residential mortgages. The policy insures the lender in the event of default by the borrower for any reason other than fraud. The claim amount is the difference between the:
• loan balance including unpaid interest
• property sale price realised net of costs
The mortgage insurer obtains subrogation rights and may pursue the borrower for any payment made under the LMI policy.  The one-off premium for LMI is expressed as a percentage of the value of a loan, and is charged to the borrower at the time the loan is arranged. The premium charged by the insurers in the market depends on the characteristics of the loan – predominately loan to value ratio (LVR) but also size of loan, type of loan and type of borrower (owner versus investor).  Claims from the LMI policy can arise throughout the duration of the loan but predominately arise between one and six years from origination. With the increased level of churn in the mortgage market, the duration risk of LMI policies has reduced...........LMI is a highly cyclical business. Even in a good economy, there is always an underlying level of mortgage defaults caused primarily by loss of employment or relationship breakdown. The state of the housing market determines whether LMI losses follow. The combination of higher interest rates, falling house prices and high unemployment can cause a catastrophic level of LMI losses



pages  21  -  23.........     An innovative new product, the reverse mortgage, is giving the mortgage industry a new avenue for growth as the housing market slows in Australia. .............Currently there are six organisations offering reverse mortgages in Australia. .............Reverse mortgages contain different risks. The biggest difference is the risk that the house value will not be enough to repay the original loan plus accumulated interest when the borrower finally moves out or dies........Because reverse mortgages are new, they are not well understood by the public. This brings the risk that the borrower does not appreciate how the loan works and how it behaves in changing circumstances. The borrower is not the only one affected. The heirs may be disappointed to find their inheritance greatly diminished

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