For a while now my colleagues at Kensington and I have been leading a campaign to ditch the phrases ‘sub-prime’ and ‘non-conforming’ in favour of the term ‘specialist lending’ to describe the sector of the mortgage market in which we operate. This is simply a reflection of the fact that the market has broadened out considerably since those pioneering days back in the mid-1990s, and the former terms are no longer accurate.
Industry estimates vary, but we reckon that the specialist lending sector now accounts for around 30 per cent of the UK market, or around £90 billion in annual lending. According to market research by Datamonitor, more than nine million people every year struggle to qualify for a mainstream mortgage – that’s about a quarter of this country’s adult population.
Now, of course, there is still a significant amount of business in the specialist lending sector that we would consider traditionally as non-conforming, such as borrowers with poor credit histories, CCJs against them, mortgage defaults or late payments. But they do not add up to the growing number of people that is driving the specialist sector forward.
Offensive
A huge number of these people would be offended to be described as sub-prime, let alone given the tag ‘dirty business’ that still persists, and the only thing they do not conform to are the narrow and inflexible lending criteria that many so-called prime or mainstream lenders enforce on their potential customers.
We are talking about ordinary people with everyday issues, such as the newly self-employed, the recently divorced, buy-to-let investors and people holding down multiple jobs. The factors that create these issues, particularly in the work environment, are becoming more prevalent, so the number of borrowers that need a more flexible and pragmatic approach to mortgage lending will continue to grow as well.
And if more proof were needed of the growing importance and commercial clout of the specialist sector, you only have to look at the proliferation of new lenders that have entered the non-standard market over the last year or so, either starting from scratch and backed by foreign investors, or new brands launched by existing UK lenders.
They are all keen to get their share of what they believe is a hugely profitable market, which is obviously good news for borrowers, as it increases competition and choice for them. Pioneers of the specialist sector such as Kensington, GMAC-RFC and BM Solutions also welcome the competition as it keeps us on our toes, but there should be a word of warning to brokers and customers. When a new lender sets up in business, primarily because they think there is quick money to be made, what does this say about their motivation, their experience of specialist lending and the service provision they have to support their products?
So, all-in-all it is a busy time for the specialist lending sector, which shows just how far it has developed over the last decade or so. It is no longer a niche business on the margins of the mortgage industry; it is no longer a poor cousin to the mainstream lenders on the high-street; and names like sub-prime and non-conforming are as out-dated as the image of a bunch of lenders that are the last resort for credit-impaired borrowers.
Predictions and observations
On that basis I am going to make a few predictions and observations of how I believe the specialist-lending sector will develop over the next year and in the years to come. I believe we will see that 30 per cent figure increase steadily year-on-year so that specialist lending will account for 40 per cent, 50 per cent or even 60 per cent of the marketplace. In 10 years’ time, I predict we will get to the point where what we now call ‘specialist’ is actually the norm.
It will be an exciting market segment where lenders offer mortgages that have been created for specific groups of borrowers or designed to be flexible enough to meet the different needs of individual customers. So innovation in product design must go hand-in-hand with customer understanding. Specialist lenders will have to build stronger relationships with borrowers and their brokers to be able to deliver products with the right kind of features.
For example, flexibility in payments for borrowers that have variable incomes, such as the self-employed and those working in a number of jobs. Mortgages that take a more level headed approach to risk, such as buy-to-let investors, providing them with a mortgage that takes a realistic view of investment portfolios with multiple properties, rather than penalising them by charging them more because they have more than one mortgage.
Product ranges will also become more straightforward, offering easy access mortgages that are clearly priced and easy to understand, so that borrowers and brokers know what products are best suited to them, depending on their situation. This does not mean a mainstream one-size fits all approach, because specialist products will still employ underwriting criteria that bases decisions on the borrower’s circumstances, but it will take the confusion out of choosing a specialist mortgage.
We will also see more developments at either end of the specialist spectrum. Already lenders are offering low adverse and near-prime mortgage products – this will be a trend that continues, with providers expanding even further into the traditional mainstream territory where they see a customer niche that is not being addressed adequately.
Innovation and responsiveness
But I also think we will see many specialist lenders tending the roots of their business as well, taking the innovation and responsiveness they have been applying to the rest of the marketplace and bringing it back to high adverse and credit impaired customers. Bankruptcies and Individual Voluntary Arrangements (IVAs) are increasing, so specialist lenders will be looking to provide value for money mortgages for bankrupt borrowers when they return to the market.
As this is a field that the likes of Kensington pioneered, then there is already a lot of experience in such products. Yet, there have been changes in the way people view bankruptcy and there is much less stigma attached to things like IVAs, so lenders will have to consider this when pricing products and profiling customer risk. Will the new entrants in the specialist sector have the same experience or appetite for risk?
Putting the borrower first when developing products fits well with the FSA’s requirements for ‘Treating Customers Fairly’ (TCF), which quite rightly guide us that, not only should we as lenders provide mortgages to meet the needs of consumers, we must also design them in a way that enables them to understand how they work and what risks are involved. These factors also apply to pricing, which has not always been as transparent as it should be in the specialist sector.
Invariably specialist mortgages are more expensive than straightforward prime products, so that means borrowers and brokers tend to look at headline rates first when searching for a product. But as we all know, this does not necessarily mean that the best rate is the cheapest, particularly as many specialist lenders tend to load up their products with hidden fees and costs such as higher lending charges (HLCs).
These charges are not always clear to brokers when they search for products, particularly via sourcing systems. It can be confusing for both adviser and borrower when comparing products, as a mortgage with a lower headline rate could well end up being more expensive when the HLC is added on. Most mortgage intermediaries are wise to this and they will try and steer clear of those sorts of deals, so if specialist lenders want to win over advisers they should adopt a policy of fair and transparent pricing straight away.
Staying with pricing, I think we will also see a move away from fixed rate deals in the immediate future. Although interest rates have remained stable, swap rates have risen significantly, which means that discounted rates are actually offering better value at the moment.
Intermediary importance
My final prediction is that mortgage introducers will continue to play an important role in the specialist marketplace, as they will be the glue that holds everything together. In fact, as the number of borrowers turning to specialist mortgages grows, the demand for advice from intermediaries will become even greater, and we as lenders must recognise, value and support that.
Mortgages are complicated financial instruments, but in the specialist sector that complexity is even greater. Brokers are vital in understanding the needs of customers, explaining to them their choices and providing them with access to the right lending solutions.
Distribution will be a key factor as the specialist sector develops, particularly as competition is likely to mean that prices will be similar from lender to lender. Mortgage providers will need to ensure that brokers can access products the way they want, whether directly or via a packager, and that service remains paramount so borrowers and intermediaries come away from a lender with a good customer experience.
Getting the right balance between products, pricing and service will be crucial. It will also be the difference between those lenders that are here today and gone tomorrow, and those that are around in 10 years time.
