Maintaining your hold

Retention strategies are the hot topic of the moment for both lenders and brokers and it’s easy to understand why. As we see the fist signs of the mortgage market slowing down in response to five successive interest rate rises, lenders and brokers are both eager to secure their future sources of new business.

For brokers, that means not only foraging for new clients, but also having the right to advise exiting clients about their current mortgage arrangements. For lenders, their challenge is not only about keeping new business rolling in, but also dissuading existing borrowers from walking away. In other words, plugging the leaky bucket.

A dividing issue

Although the objectives of both groups may seem closely aligned, there is one key issue which has the potential to divide them both: client ownership. Both brokers and lenders like to think they own their client relationships and this concept of ownership is core to the way in which many organisations have approached the task of developing their client retention strategies to date.

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For many lenders, client ownership presents a real dilemma, because longer-term client relationships are essential to future profitability. In the battle to win new business over the past few years, lenders have relied heavily on short-term fixed rate deals. These have become enormously popular, with 78 per cent of all new mortgages granted in May this year being completed on a fixed rate basis. Unfortunately, popular two-year fixed rate deals have extremely thin margins and lenders need to retain borrowers at the end of the fixed rate term in order to generate worthwhile profits. Borrowers being churned onto better deals elsewhere does nothing for future profitability.

Churning is a real problem. 20 years ago the average life of a prime mortgage was seven years. Today, it is little more than three years, and the trend is downwards. This tide has to be stemmed. However, many lenders are heavily reliant on brokers for their new business, with intermediaries generating approximately two-thirds of their new mortgage referrals. Lenders cannot, therefore, afford to bite the hands that feed them by cutting brokers out of the client relationship. Brokers need to be included, not excluded from lenders’ retention plans.

One of the step changes which has taken place among many lenders’ thinking has been the recognition of the need to work with brokers and develop retention strategies which are broker inclusive. That means being willing to share client information and even developing systems, as HBOS has done, which enables brokers to manage their clients’ mortgage accounts on their behalf. HBOS’ retention strategy has recently been blamed for the dip to 8 per cent in its market share but this had more to do with the competitiveness of its products than the principle of being willing to share client information with intermediaries.

However, sharing client data does not mean lenders are willing to hand over the client relationship to brokers, lock, stock and barrel. The concept of client ownership is in reality, a very naïve and arrogant one. It’s the customer who will ultimately decide who they deal with and on what terms. Lenders and brokers are only empowered to make borrowers aware of their options and advise them accordingly – it’s ultimately up to the client to make the final decision.

Not unreasonable

However, it’s not unreasonable for a lender to make borrowers who are coming to the end of fixed rate deals aware of the options available to them. Lenders have to notify borrowers that their monthly payments will change when they revert to a standard variable rate and this is a logical time to inform them about other products which may be suitable for the future.

It’s also a good time to make borrowers aware that, if they feel they would benefit from professional financial advise, they can always speak to the broker who originally advised them. By presenting clients with options in this way, lenders are giving brokers the chance of a bite at the cherry. There is nothing stopping brokers from also contacting clients as they approach the end of a fixed rate deal. After all, they should know when the deal is due for renewal.

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When reviewing clients’ future needs, brokers have an obligation not only to take into consideration headline rates, but also redemption penalties, fees and charges and the hassle factor involved in borrowers moving their mortgage. At the end of the day, most borrowers have no great appetite for filling in mortgage application forms every couple of years and, all things being equal, most would prefer to leave their accounts where they are. The decision to stay put or remortgage is rarely one which is driven purely by rate and lenders need to bear this in mind as they develop their retention strategies.

Commission

Which brings us on to the thorny question of procuration fees. If a broker reviews a client’s future mortgage needs and comes to the conclusion they are better off leaving their mortgage with their existing lender, should the broker be paid a fee for this advice and, if so, on what basis should the fee be paid – upfront or as a trail fee?

Most agree that brokers should be paid a fee for retention business. There is also a desire among lenders to move towards the payment of retention fees as they reward brokers for the longevity of the client relationship and encourage them not to churn clients. However, it is argued that trail fees simply replace one conflict of interest with another, as they are deliberately designed to encourage brokers not to move their clients’ mortgage. Brokers have to put their clients interests above those of lenders and they have a duty to treat customers fairly and provide them with best advice.

This is a concept which new Prime Minister Gordon Brown also needs to bear in mind, as he tries to encourage both lenders and home owners to favour longer-term fixed rates. The government wants to create more stable, less volatile housing and mortgage markets by encouraging more borrowers to take 25-year fixed rate loans and not keep constantly remortgaging as they do at the moment. However, borrowers will only switch to longer fixed term rates if they believe there is a significant benefit in doing so. To date, long-term fixes have been more expensive and more restrictive than shorter-term fixes, which is why borrowers have opted for two-year rather than 20-year deals. It will be interesting to see if the covered bonds being backed by the government will enable lenders to develop long term fixed rates which do have greater consumer appeal.

Product design

Product design is an important element in lenders’ retention strategies. It’s all well and good for lenders to have strategies to communicate with borrowers at key points in the product life cycle, being happy to share data with brokers and being willing to pay attractive fees for retention business. But if the products on offer are not competitive, borrowers will vote with their feet and move their mortgages elsewhere.

However, products can be designed to help foster longer term client relationships. It is interesting that offset mortgages have recently grown in popularity and, according to the Council of Mortgage Lenders, now account for 7 per cent of all new mortgages, comprising some 170,000 mortgages valued at £23.9 billion. Offsetting provides borrowers with a tangible benefit for leaving their mortgages where they are and, although I have not seen any data to substantiate this claim, I suspect that offset accounts are less prone to remortgaging than other classes of mortgage business.

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What’s more, brokers are also keen on offset accounts, with intermediaries generating 60 per cent of all sales transactions in 2006, as opposed to just 25 per cent in 2005. If churning business was a broker’s only objective, then you wouldn’t expect to see this trend which does support brokers’ claims that it is the needs of their clients which determines the advice they give, rather than the lure of large proc fee payments.

I’m sure we will see more products being developed in the future which specifically have client retention as a primary objective.

The development of effective retention strategies which satisfy the needs of lenders, brokers, borrowers and the regulator’s desire for a transparent market, is a form of mortgage alchemy which will challenge the best minds in the market for some time to come. However, it is an issue that lenders cannot afford to ignore and it is important that lenders and brokers work together to find a solution that benefits both parties.