You may have read in the press recently what I have been banging on about since Nick and I started this business. If not, you can read about it here. The article in the smh – which is around 9 months late – states that APRA’s actions have successfully reined in the housing boom. They’re probably right. However that’s at the cost of the borrowing capacity of most bank customers.
One thing that hasn’t hit home with borrowers is that their ability to borrow has been reduced. Sometimes significantly. There have been a number of ways that this has been achieved. The following is not an exhaustive list but it covers the main points:
- When we calculate a borrower’s ability to service the loan, we use what is referred to as a plug rate – not the 3.99% rate that the borrower may receive. These plug rates vary from lender to lender but they currently range from 7.5-7.8%. The use of plug rates is not new but the fact that they’re almost double actual rates is.
- In days gone by an arbitrary expenses number may have been used – say $20k p.a. – to calculate a borrower’s expenses. This, despite the fact that the borrower may have three kids in a high-end private school, take’s annual holidays with the wife, said children and nannies flying business class to Zermatt, employs two nannies and outsources everything from the cleaning of the house to washing/walking the dog. These days, actual expenses numbers are used. Before you ask how would we know remember that the provision of bank statements is part of the information gathering process – and not for nothing.
- When you get your annual bonus – and you receive it regularly – you would think that the bank would take this number into account when calculating your annual income. To be fair, some still do but they take 80% of a three year average. More and more, however, we’re seeing that the bonus is not counted as annual income.
- If you have a series of platinum credit cards in your wallet with limits of $100k banks are using the limit to decrease your borrowing capacity. Note that I stated “limit” not balance. Even if your credit card balance is zero banks will calculate based on limit.
- Other liabilities such as personal loans and car leases are also taken into account when calculating your servicing capacity. So before you borrow to pay for that annual holiday or lease that German convertible, know that it will place a large dent in your borrowing capacity.
- Investment property: rent from these properties is calculated as 80% of the actual rent received, further reducing your servicing capability. Also, many lenders will not lend more than 80% of the value of the property to investors. Even if they do, the LMI charged to the client is pernicious.
- There are more, but you get the picture.
Personally, I think it’s a little overkill but I get what APRA’s doing. We’re seeing borrowers that earn $250k p.a. that would’ve qualified for a loan 12 months ago now cutting it fine. Surely that’s not good for the economy.
APRA has taken the easy option by not focusing on the too big to fail problem. The only way that can be achieved is encouraging new credible entrants into the market.
So, the next time you want to re-finance or apply for a new loan, you may want to get your broker to run the numbers first. You may need to live like a monk for twelve months but we’ll get you that loan in the end. Oh, and tell your broker that no credit checks are to be run until approval is certain.
APRA has installed itself as the bank manager from decades past. Mainly because the banks have replaced them all with loan officers with impossible to achieve KPI’s and zero authority. APRA is using the banks’ tick-a-box processes to achieve a uniform outcome. There is no human intervention that can over ride extenuating circumstances. This is where the system fails.
We’re seeing new financial warehouses spring up to fill this void. At the moment they’re not the mainstream and their pricing is a little more expensive than the banks (not by much). But if APRA continues down this merry road of punishing borrowers then they (the new entrants) will gain traction and fall outside it’s supervisory reach. That is not entirely a bad thing but it begs the question as to the reasons why and consequences of APRA’s hard-line stance. A few of these may be:
- With monetary policy so easy and fiscal policy tied up in political knots, it may be felt by treasury that this third way – of restricting the supply of money to those that can afford it in a severe downturn – is a good alternative (to rate hikes and tax increases) for taking the air out of the property bubble. For that APRA needs to be applauded.
- One of the consequences of this course of action is that it will allow more expensive substitute lenders to enter the market and we’re already seeing that – that’s a good thing. The downside is that lending via these channels falls outside the APRA regulatory regime and falls in the ASIC purview. ASIC is over-stretched as it is.
- The banks will not suffer a hit to their revenue and will want to maintain their 15% ROE levels (the highest in the world) and we’re now beginning to hear them talk about venturing back into cash-flow lending to the SME sector. The problem is that most staff that can actually undertake this type of lending have left the market (we’re available for consultancy should the need arise).
We understand that this course of action is being encouraged by APRA, whilst we also applaud this strategy as long overdue, it contradicts everything that APRA is trying to achieve in the residential lending space. Let’s watch carefully how this unfolds.
Some would argue that the current strategy by the regulator is to try and manage the unregulated economy by regulating the cornerstone of that economy (the supply of money). Three steps forward and two steps back? I don’t know.
My recollections of the regulator in the 1990’s (when the RBA did the regulating) was that a meeting with them was referred internally in the bank where I worked as “tea and biscuits”. How things have changed.
Your borrowing capacity may have reduced slightly but it hasn’t disappeared altogether. APRA, via the banks, is applying rigorous disciplines to take the air out of the bubble. Time will tell if they have succeeded by reducing people’s borrowing capacity.