What does next year hold for lending and markets?

Fear, greed, scarcity, loss, or any other negative, emotive word you want.

That is what makes headlines and sells papers, I mean clicks..

Before we look behind the headlines, I wanted to let you know I have been missing scribbles as much as you have!

In the past 3 months we have completely rebuilt the film studio and attached offices, and it meant I spent much of my time working from an iPhone. Not great for scribbling scribbles, or most other productive activities. I will conduct a backstage video walk around when we finish setting it all up, but for now, I am back at a working desk!

(This article follows on from my last scribbles, ages ago! Click here to read it to find out what is happening for the next 10 years in property)

From January 2023, there are changes in the way banks can lend money.

Australian Prudential Regulatory Authority (APRA) sets the rules for the banks. Over the past 3 plus years, they have been getting ready to implement core adjustments.
Under the premise of making the system more robust, APRA’s main drive is to have the banks more ‘liquid’ that is, to have more capital (funds) on hand when compared to debt levels.

This does not in any way mean, they have more cash than debt, but rather the percentages of liquid funds vs debt is slightly adjusted.

These changes have been touted as a real problem for the property market and will cause further softening of prices, however, all is not as it seems

The APRA changes hit every style of loan and lending, though a range of impacts from tweaking to adjusting to restricting.

While Australia does not directly follow the rest of the world, it kind of does really. There is a set of regulations called BASEL III, that internationally, financial institutions have subscribed to.

It is a regulatory framework for capital adequacy (amount of funds banks need on hand) lending and bunch of other loan related things.
As such, APRA has followed suit with the BASEL III regulations.

Why do banks care about capital?

The less capital they are required to hold on hand, the more loans they can do. I don’t want a barrage of emails from bankers about this, but the easy way to explain it, is like cordial concentrate for a party.

Let’s say you are making 1 liter jugs of drink for your party.
The ratio of cordial to water is dependent on taste.

Don’t want to hype up your kids; just use 50ml of cordial to make 1 liter of drink.
Got some mates over after a big night; maybe bump that to 100ml to make 1 liter of drink.

Cordial?

If you have a 500ml bottle of cordial on hand, it then stands to reason that you can make 10 liters of kids’ party drink but only 5 liters of your mates hangover drink.
Same with cash on hand at the banks.

The less they need to hold, the more lending they can do.
Without putting you (and me) to sleep with a line-by-line rehash of these APRA docs, I have pulled some notable items for comments…

Capital weighting is further magnified based on riskiness of loan and borrower.

Meaning that banks need to hold more cash on hand for loans having less deposit and/or from borrowers who are less than ideal. Things like a steady job with paycheque might rate higher than self-employment. Similar to current rules but with more focus and parameters around it.

This will play out in the both the interest rate and terms of the loan.

An employee of 20 years will have a different risk profile to a 18 month start up self-employed person. Big deal, same as now, however moving forward the banks will adjust the rate, the terms and or deny the loan all together. Still similar to now but with more focus.

Banks will favour non-risky loans and profiles

Expanding from the above, the flow on is that banks will then favor loans that require them to have less capital held.
Their advertising and products will be designed around the most profitable loans, the ones that need the least amount of capital on hand.

This will mean owner occupiers and people with good jobs and decent deposits (20% plus) will be the target for banks.

Why is this important?

Owner occupiers are the ones that buy emotionally and push the prices up. I know, I know, every time I write that I get hate mail, but hey, the truth hurts, suck it up sunshine.

Next year you will see a resurgence of advertising targeting owner occupiers and the corresponding increase in their lending.
Market movement will follow.

Interest only loans are back.

Yep, they are.
APRA proposed that interest only loans were to be classed as risky due to the lack of loan principle paid down over, the loan term.

In the consultation phase of the regulation review, banks responded to this comment from APRA with a resounding push to make Interest Only (IO) loans line up with the Principal and Interest loans (P&I).

The banks highlighted that when renewing an IO loan, they also require financials to be updated, meaning essentially this is a newly updated applicant and not a loan lost in the system.

The end result was that APRA agreed to change the risk profile proposed for IO loans to line up with P&I loans and their profiling. As well as this they removed the cap on IO loan term renewals.

Speak normal Scotty…

Long story short, IO loans that have good deposits, 20% plus, will have the same risk profile as P&I loans with 20% plus deposits.

And if you update your financials every time you renew your term, eg every 5 years, you will have the ability to INDEFINITELY choose Interest Only Lending…

This does not all sound like the property market will crash from these changes as some make you believe. The reappearance of IO loans will make a massive change to some people’s ability to borrow more money.

We all know that more lending finds its way into higher house prices.

That is what bubbles are made of.

If you think I am crazy, then check out a couple of headlines from around the world and the banks changes to lending that is happening, are we next?

New lender offers 50-year fixed mortgages to borrowers looking to beat inflation
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Students in England to payback loans over 40 years instead of 30
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Bank of England plans to remove interest rate rule for mortgages
Bank wants to scrap rule that borrowers must be able to afford rate rise of three percentage points
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13 June 2022: In July 2020, in light of the Covid outbreak, and high uncertainty surrounding the extent of the stress, the PRA announced a temporary increase of the PRA buffer for all firms that received a P2A reduction under the PS15/20. All firms, currently, with a material PRA buffer adjustment under PS15/20 will no longer have such adjustment from end-December 2022.

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What will Australia’s headlines be, next month, next year?

If you want to secure your financial future using property, then contact us here  or call now on 1300 66 77 89.

Since 2004, Scotty North has been helping people buy the best properties for their needs at prices that simply speak for themselves.
Scotty has been instrumental in bridging the gap between financial planning and traditional real estate transactions through his property advice model.

Scotty North is a Qualified Property Investment Advisor (QPIA), with accreditation’s in financial planning, mortgage broking and real estate.

By carefully considering his clients’ goals and planning for market changes via demographics and trends, Scotty designs a future proof outcome not only specific to the client’s needs but dynamic in its execution with performance indicators and exit strategies built in.