Many of you probably already know what mortgage insurance is. But for those of you that don’t, here’s a quick primer. When you are in the market for a house, you need to borrow money. This can be from either a bank or some other lending service.
Once you’ve given your lender all your details — including how much you want to borrow — the lender will ask for a deposit. Let’s keep it simple and say that you can offer any amount. Meaning you could put up $6,000, or $60,000, as a deposit.
If that deposit is less than 20% of the loan, you’ll find yourself in ‘mortgage insurance’ territory. Let’s use an example to demonstrate.
I want to buy a house worth $300,000 (cheap I know). But I will probably need to borrow slightly more, due to extra borrowing fees. So let’s call it $320, 000.
With this borrowing amount in mind, I only have $40,000 dollars saved up. And I offer all of my savings as a deposit. This means I’d only be able to offer a 12.7% ($40,000/$315,000) deposit for the loan. Since this is lower than 20%, it’d put me in mortgage insurance territory.
However, if I had $63,000 as a deposit then this would be exactly 20% of my loan value. And, because I have 20%, I would no longer be in mortgage insurance territory, and wouldn’t have to pay the lenders mortgage insurance (LMI) fee.
It might look like another fee added on to make the banks richer, but the role of LMI is actually very important. Make no mistake, LMI is solely for the lenders benefit — not yours. However, LMI gives lenders confidence that they will be able to recoup losses if you, and your assets, are unable to pay back/cover the loan.
When it comes to mortgage insurance there are two big insurers which almost all lenders turn to. Those two are Genworth Financial [NYSE:GNW] and QBE Insurance Group [ASX:QBE].
Just this morning, GNW’s Australian subsidiary, Genworth Mortgage Insurance Australia [ASX:GMA], released their first quarter earnings for 2016. Below shows the table GMA released to the market.
Source: Glenworth Financial
What is troubling is net profit (reported NPAT) and new insurance written. The first has fallen by 24.8%, to $67.3 million. The second measures the amount of new business that GMA is taking on. This also fell by 13.9%, to $6.2 million.
So both new and existing GMA operations have declined in the first quarter of 2016. And while these results reflect negatively on GMA’s future operations for 2016, CEO of Genworth, Ms Georgette Nicholas, said ‘[First] quarter results are largely in line with our expectation.’ Changes in the mortgage market have ‘put pressure on Gross Written Premium levels,’ Ms Nicholas added.
These changes specifically refer to the ‘noticeable decline in the proportion of high loan-to-value ratio (LVR) loans and changes in lender risk appetite.’
Therefore, lenders, as well as borrowers, are becoming risk-averse. More borrowers are now taking out mortgages with 20% deposits or more. At the same time, lenders are restricting their lending habits to riskier borrowers. So if fewer borrowers are within LMI territory, then it doesn’t bode well for Genworth. Ms Nicholas notes:
‘Given current market conditions, we remain focused on maintaining our risk management discipline. We are also actively managing the Group’s capital position to ensure we are appropriately balancing our objectives of meeting our policyholder obligations, delivering long-term shareholder returns and having the flexibility to grow the business in the future.’
Will lenders take on more risk as time goes on?
Right now the Australian mortgage market and lending standards aren’t set in stone. There are even conversations about changing or getting rid of negative gearing. However, GMA is confident that focusing on their strategy might prove to be the best course of action.
GMA points out that the outlook of the Australian residential mortgage market remains strong. It’s supported by sound fundamentals, including low employment, low interest rates, and a focus on regulation.
Why regulation? Because we don’t want another global financial meltdown on our hands. While it’s in GMA’s best interests, they state that average housing price growth should remain moderate in 2016. Why? The fundamentals listed above have provided, and are expected to continue to provide, housing price growth.
GMA expect the high LVR market to continue. It will constrain their operations for 2016; GMA are predicting gross written premiums to decline by 20%.
And while GMA is spreading doom and gloom for themselves, investors didn’t seem to mind. Results were already expected to be repressed, so that information was already price into GMA’s shares.
GMA shares have traded 1% higher this morning, to a high of $2.42 per share.
Source: Google Finance
Junior Analyst, Money Morning
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