Bank CEO sees 'very, very limited impact' from RBNZ move on residential property loans

Bank CEO sees 'very, very limited impact' from RBNZ move on residential property loans

By Gareth Vaughan

The Reserve Bank's plans to make trading banks treat residential property investors as a different asset category to home owner-occupiers will likely result in just modest increases to interest rates for property investors, says the Co-operative Bank's CEO Bruce McLachlan.

McLachlan, who is also an-ex Westpac NZ executive where he was acting CEO for nine months during 2008/09, told he supports what the Reserve Bank's trying to do, but isn't sure it's going to succeed.

"I have a funny feeling that this is actually going to have very, very limited impact. Broadly I support what they're trying to do because they (loans to property investors) are a different asset class. And a variant on the retail asset class is what makes sense to me," McLachlan said.

"But is it actually going to slow the market, is it actually going to impact the capital of banks enough that they're going to change their pricing enough to make a difference in the market? I think there has to be a real, real question mark about that."

He said the Reserve Bank proposals, in the consultation paper released last week, were looking at "pretty modest risk weight changes."

"When you look at what they think will happen to general risk weights... the vast majority of property investment stuff will be below 80%. This means if banks act rationally it'll be relatively modest pricing changes for property investors. And then is it really going to impact the market at all?" Questioned McLachlan.

"My  gut feel is this is going to result in very modest price increases for property investors. And that's almost regardless of any options (of the three touted by the Reserve Bank). And clearly some options are going to catch more than others, but regardless is it really going to have much material impact?"
Three options

Last week the Reserve Bank said it was considering three ways mortgage loans to residential property investors could be defined as it works to establish a new asset class for such lending within trading banks' capital adequacy requirements. Currently investor mortgages are treated the same as owner-occupier mortgages for regulatory capital purposes. The move is partly to facilitate the introduction of a macro-prudential property investor policy should that become necessary, the Reserve Bank said.

The three possible alternatives under consideration include:
· if the mortgaged property is not owner-occupied; or
· if servicing of the mortgage loan is primarily reliant on rental income (with the threshold likely to be 50%); or
- if servicing of the mortgage loan is at all reliant on rental income.
The potential is that the Reserve Bank move could make loans more expensive for property investors, and potentially harder for them to obtain, given banks will have to hold more capital against such lending than they currently do. The latest monthly Reserve Bank data shows investors accounted for $1.146 billion, or 32%, of new residential mortgage lending in January.
The Reserve Bank also said it wants to establish a new asset sub-class within the existing retail asset class rather than categorising loans to residential property investors as corporate loans.
Currently Kiwibank and the other NZ owned banks have an average portfolio risk weight of just under 40% on home loans. The average risk weight for the big four banks' - ANZ, ASB, BNZ and Westpac - is around 30%. For the new asset class of residential investor loans the Reserve Bank wants a consistent approach across all banks. The Reserve Bank says where there's mortgage insurance, risk weights on residential property loans secured by a first mortgage could be 40% on loans with loan-to-value ratios (LVRs) below 80%, which comprise the bulk of banks' mortgage books.
The risk weights feed through to how banks' regulatory capital requirements and ratios are calculated. Effectively the higher the risk weight, the more regulatory capital required to be held against a loan.

New Zealand Bankers' Association CEO Kirk Hope told last week, after the release of the Reserve Bank's consultation paper, it looked like the prudential regulator had "come up with a pretty reasonable set of options."

Outcome 'completely different' under initial proposal

McLachlan said the outcome would be completely different under the Reserve Bank's initial proposal. This would've seen anyone with more than five properties, regardless of whatever other income sources or revenue streams they had, being treated as if they were running a small business. Bankers suggested this option was flawed because, among other things, it would be tricky if investors had loans with different banks and when properties were owned through trusts and companies.

"It would be totally different under what they were talking about previously, which was really 'we're going to take property investors and pretty much take them to 100% risk weight.' Now that in my mind has quite a material impact," said McLachlan (pictured).

"A residential loan versus a commercial loan, those are priced  materially differently. If it's a modest change in the risk weight I just don't think it's going to move the dial much. Even if it was going to be a quarter percent change to property investors, I don't think that would have a material effect on that market."

McLachlan added that he doesn't think there's any debate that property investment is a different asset category to owner-occupier. And he also said the path the Reserve Bank had previously been heading down, classifying anyone with five or more properties as commercial borrowers rather than retail customers, even if in principle it was right, was going to be impossible to measure and impossible to administer.

"The (consultation) paper itself does not say that the goal is to slow the Auckland housing market. But the only reason we're having a financial stability discussion is because of the movement in Auckland house prices," said McLachlan. "If the intention is to try and slow the market then clearly you are going to go down the avenue that's more likely to be successful."

He said any of the three options the Reserve Bank has floated would be "very easy" to administer, once it's crystallised as to just who a property investor is.

Protecting the banks

Meanwhile, credit rating agency Fitch views the Reserve Bank's move positively.

"Higher capital requirements for investor loans may result, which combined with the existing LVR limit could help protect banks' against material losses in the event of a property price correction," said Fitch.

Fitch also suggested the introduction of higher capital rules for investor mortgages might slow the growth rates of Auckland property prices.

"Increased investor demand and a rise in investor mortgages appear to be a contributor to this strong growth, and the Reserve Bank's proposed limit could address some of the risks associated with these loans. The agency expects banks to charge higher interest rates on investor mortgages to offset the higher capital requirements which may deter some of the more marginal investment activity in the market." 

Auckland house price rises of more than 10% per annum over the last two years are "unlikely to be sustainable in the long-term."

"Investor mortgages typically have lower LVRs relative to owner-occupier loans and therefore are less susceptible to the Reserve Bank's existing LVR restrictions, introduced in October 2013," Fitch said.

Limiting the growth of household debt

Fitch also believes an indirect impact of the Reserve Bank's move could be helping to limit the growth of  household indebtedness by reducing house price appreciation closer to income growth.

"New Zealand's household debt, measured as a percentage of disposable income stood at 156% at end-September-2014, which is high relative to many peer countries and has increased by five percentage points since 2012," said Fitch.

"Although interest rates are still low compared to the historical long-term average, a rise in the Official Cash Rate could place borrowers at risk of being unable to service their mortgages, and may eventually lead to asset quality problems for the banks. However, this risk is partly mitigated through bank affordability testing, which includes adding a buffer above the prevailing market interest rate when assessing serviceability."

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Good article.  First time a banker has come out with an estimated/guess at increased interest rates for PI's.
Incase anyone (problem solver, who has locked in a guess of 2% increase, cowboy, who locked in 1% guess) missed it:
"If it's a modest change in the risk weight I just don't think it's going to move the dial much. Even if it was going to be a quarter percent change to property investors, I don't think that would have a material effect on that market."
I said last night 0.5% at the upper range of estimates based on the suggested inreases in risk weights for PIs outlined in the consultation paper, and on the general risk profiles of investment property loans Vs owner occupiers using the overseas examples outlined in the paper.

This particular banker has a very very limited experience as a CEO (9 months?), ultimately this is a tool that would need to be enforced, so the formula won't be in the hands of the banks. I agree Simon, a couple of peoples opinions don't amount to more than a hill o beans, so lets lobby for an Interest poll on the expected interest rate for rental portfolios, if legislation or RBNZ directives are enacted. I won't buy you a pack of beers if you're closer when the dust settles, as I don't drink, but I'll shout you something healthy of equal value if you're right.

The only way this will have real teeth is if the RBNZ uses the new classification to implement more policy targetted at PI's.  Which would be unusual given owner occupiers are generally the ones who pay the irrational prices in NZ, competing with overseas $ which represents no risk to banks (apart from the indirect risk to house prices if they all sell up at the same time)

OO have higher default risk, but LVR reduces that threat , and NZ banks do try to help people keep their home.

PI's tenf to default less (more pooled security) but refinance/break more often, and sell down more often.  again, a moderate eq:loan ratio is required to make exit viable, otherwise domino effect can occur.

Simon , mate , you need to understand that a bank is just another business , and they need to manange their risks , just like any other business .
But they dont
They ( banks  ) are treated like Royal game , when we all know if they cock things up they must take it on the chin .
Reckless lending is like reckless trading , if you trade recklessly there are consquences .
Here's an example :-
ANZ did not even bother to send a valuer around to my home in Greenhithe years ago when we bought it , they just approved the loan based on assets and income.
As an ex-banker I was astounded at how slack things had become.
Their only real security is the property , they lent a shed - full of money to us  at the time, basically on a lifestyle property ,  and the silly buggers have never even inspected it or valued it , to this day .  
Banks should be told to either lend more prudently and tow the line or face prosectuion .

I agree.
The only reckless lending they've done recently has been to auckland properties on valuations that are based on a few (1% or so of stock) recent sales.
The most prudent thing to do would be to value auckland properties using a different metric.
For example, weight various factors, only one being 'current market value based on a few local sales'.  This market value can change very quickly as soon as want to be buyers disapear due to a change in sentiment. This needs to be included in consideration by not using 'recent market value' as the sole means of valuation.
Another factor that should be weighed into bank valuations is rent received.  So while an auckland property may have a market value of 600k, its value based solely on rent (can consider this the value in the eyes of a prudent property investor who is not speculating but investing for cash flow), may be closer to 350-400k.
Or many other more basic approaches could be taken by banks (on their own accord) such as a constant discount to market value for markets they consider 'overheated'. 
If banks did do this they wouldn't tell people anyway, they want to lure in wealthy, high earning individuals that can take a 30% price correction without defaulting. Its business.

"Higher capital requirements for investor loans may result, which combined with the existing LVR limit could help protect banks' against material losses in the event of a property price correction," said Fitch.
C'mom - let's get real. The RBNZ is discussing possibly raising the risk weighting from 30% of a total capital ratio of 8% to 80% at best. A bank capital set aside rising from a ridiculous 2.4% of an outstanding residential mortgage to 6.4% does not mitigate losses when property prices financed by extreme levergage (80% LVRs) fall 30% as they did in the US.
That is why OBR was introduced as a last resort equity source designed to extinguish depositors savings ahead of covered bond holders and foreigh wholesale lenders in the event of an inevitable solvency crisis.

Comment of the year, I reckon. Perhaps David could raise this on Thursday? Probably at risk of excommunication though!

The policy we are using is from the 80's.  The situtaion we are faced with is not of the 80's

I am at a loss to understand the RBNZ's motives behind this utter stupidity .

  • There is little evidence of rampant speculative activity.
  • Asians see property and the crown jewels , they dont speculate , once they buy a property is seldom, if ever comes, back onto the open market 
  • The property market is the ONLY truly open free market in NZ
  • There is a shortage of houses to let .
  • Young people without the 20% deposit thats $120,000to buy a cold damp shack in Otara, are excluded fronm the market totally 
  • There is a massive housing shortage for the migrants to buy a roof over their heads when they land here
  • Here's a lesson in basic Economics 101 , an increase in the cost of supply ( interest rates / the cost of money  )will "all things being equal"  result in an increase in the price paid by the end user, as the business will seek to pass the costs on.

So what exactly are they trying to achieve ?
Are they trying to further strangle an already under-supplied market which with 55,000 new migrants arriving each year and which will continue to be under-supplied ?
Are they trying to discourage investment in rental stock , when we all know that Housing New Zealand cannot house veryone in a rented house ?
Or are they trying to protect the Banking system ?
Now we discover that they will only face a "small" premium interest rate on propert investments .
So whats the point of it all ?
Given that borrowers can get fixed rates from HSBC at almost  lower than the OCR  how with Wheeler ever manage the process ?

Asians see property and the crown jewels , they dont speculate , once they buy a property is seldom, if ever comes, back onto the open market - Yeah right
Hong Kong introduced more measures aimed at cooling the property market and protecting financial stability after home prices rose to a record last year. Read more
Singapore -.Faced with simmering discontent over rising living and housing costs, the government executed a succession of cooling measures that have hit the high-end market especially hard.
A property sales tax of 18 percent for foreigners has reduced buyers’ enthusiasm. Levies are nearly as high for those hoping to flip their properties in the first or second year. Read more

Stephen my first hand expereicne is that Asians dont sell their homes .
Our street , which has some really over the top homes on sections from 1 to 5 acres has been bought up steadily by Asians over the past  10 years .
There are now only 5 Pakeha families left ( our property is No 55 in the street ) and one ( No53)  goes on Auction  on Sunday . The agent is Matty Ma, and the open home has been an Asians - only affair   .
The Asian owned  homes in our street NEVER come back onto the market , not even one in the past decade .
Go figure !

Boatman - what does it feel like to be different?

You need to set up a support group!
You'll be Ok as along as your surname isn't White.

LOL I am okay with being different , the neighbours are very quiet , very well behaved and keep to themsleves , so I have no issue , just making the point

Boatman.  They are focusing on dealing with the particular risk the bloated prices create to the financial services.   I'm fine with that.  But if they are going the targeted track, then they should also focus their blowtorch just on Auckland.  Thats the place that's going to drag the rest of us down.

Thats true, Auckland is where the real risks of a correction exist .
But , having said that , when will the market correct ?
Its unlilkely to be anytime soon
Here are the fundamentals affecting the market :-

  • 1000 new migrants arriving  every 7 days ( thats  84 new people every daylight hour )
  • A pre-exisitng housing shortage
  • An utterly incompetent City Planning dept who have drawn a line around the city and will not let it grow
  • Exhorbitant  and horrendous fees for simple subdividing (well  in excess of my annual before tax income )
  • Land banking (Including me because I refuse to pay the Auckland Council's  absolute  rort fees of nearly $1,0 million for creating 10 new sections  )
  • Cheap money from the banks
  • A dearth of decent rental stock


Boatman says - Asians see property as the crown jewels, they dont speculate, once they buy a property it seldom, if ever comes, back onto the open market
Glad you said "on the open market"
Under New Zealand's open slather but opaque market it is possible for a foreign national to purchase an Auckland property sight unseen, via telephone, then re-sell it in Hong-Kong or Shanghai or wherever without it ever being listed for sale again in the domestic market. And it can be sold and re-sold any number of times without the locals ever knowing about it.

That is my informatiopn too.  Although the offshore sales tend to be in groups as part of a paper (document) transfer rather than advertise and shop - after all the sale offshore is often done sight unseen, with the only due diligence being the accountant and lawyer setting the value.

Boatman........the poperty market is not a free market......and if it were then we wouldn't have so many policies which influence outcomes and the RBNZ would certainly not be allowed to interfere.....a free market allows failure it is failure that knocks out the bad operators and allows new operators to step in and pick up the pieces !!!!
When you have a free market and you want financial stability then I would have thought that the RBNZ role would have been to ensure that there were lots of don't allow great big goliaths that can topple a countries economy......the idiots at the OIO should have also had to take financial stabiltiy into consideration when allowing mergers and aquisitions.
The bigger you are the harder you fall !!

Word on the street is that a lot of investment in regional areas is coming from Auckland PI's. They are in effect supporting regional prices, many areas still declining anyway.

The government better hope these policies have limited effect or house prices in the regions may just go into freefall whilst Auckland prices will merely stop increasing quite as quickly.

Auckland has a higher % of properties owned by investors than NZ overall and will be effected much greater than the regions.
An auckland PI owning a rental in a region will be getting a good yield, 7% plus, as opposed to 4% or less in auckland, so if loan costs jump due to this change they will be selling there auckland rentals, at peak prices, before they would consider selling good value for money regional rentals. 
Net immigration of +700 into P.N over 2014, considering only 250 houses for sale in the city, a lower number of listings per capita than even auckland, making it an even tighter market, wont take much more of these increases before you start seeing the 20% yoy gains experienced during 2004-2006 during the last immigration/housing boom. A lot of money on the sidelines to be put into first homes and rentals in the regions once the slightest bit of confidence is seen in the market.

Half the houses for sale in P.N have been on the market since last year, many for 6 months plus (trademe). Hardly screams tight market to me. I hope you get your 20% yoy gains though.
If I had 2 Investment Properties, one in Auckland and one in the regions I know which one I'd be holding onto and which one I'd sell if the new rules put me in that position.
If Auckland PI's pull out of the regions that won't be inspiring confidence for the local investors. 
Whether we like it or not, bad news for Auckland means very bad news for the regions. Same with the LVR policy.

Of the lower value properties (under 250k, excluding sections) only 10 of the 90 for sale were listed in 2014. 100 sold a month, equivalent to almost half the total number of listings... Auckland prices are first to go up, then level off while the regions play catch up, happens everytime

And it's not so much as investor 'choice' that determines if they sell/buy in auck or regions, its the banks servicability requirements.
Increasing interest rate in general mean PI's are often limited in the amount of debt they can borrow due to their income, not their equity (as is the case for most FHBs).  Auck property doesn't bring in enough income to make the numbers work to borrow the 500k plus to buy the next rental in auckland.  Places like PN the rent itself provides most of the required income for debt servicability (assuming 100% mortgage against existing equity in other properties).
Thats why later on in the cycle the regions out perform the main centers. I for one won't be betting against a similar thing happening this time.

You've almost convinced me. I might make that bet with you. Got to invest somewhere.

ex popular press, tune change?
F.O.M.O, the Fear Of Missing Out? It's a compulsion now so rife among would-be property buyers they're giving themselves debt hangovers that will last a lifetime...........................
Find your safe borrowing ceiling (regardless of what a lender tells you it is) with these two simple steps.....................................................
"Helpful" people will tell you property doesn't ever go down so it's OK to borrow a lot – it does and it's not. Especially at housing highs and interest-rate lows. Don't be seduced by F.O.M.O's crazier cousin Y.O.L.O. - You Only Live Once.
The urban dictionary defines this as "The dumbass's excuse for something stupid that they did."
You can't afford this to be you.
NB for all figures I have assumed an average mortgage rate 2.75 per cent above the official rate.
Nicole Pedersen-McKinnon is founder of and developer of The 12-Step Prosperity Plan.

Only the RBNZ could think that if you cut a foot off the top of a blanket and sewed it on to the bottom you''d have a longer blanket with better coverage!!!

Just another flawed RBNZ scheme. I have two mortgages up for renewal shortly - fixed at 5.85% and 5.89% - now will be able to refix for 3 years at 4.99% or maybe less. At same time have increased rents 8% - all good as far as I can see.