Peter Welch takes a look at the issues currently affecting the equity release market to see if he can identify the source of recent turmoil.
Looking at the provider market for equity release products at present one might be forgiven for wondering, where did all the players go? It is certainly true to say that a significant number of lifetime mortgage providers have fled the equity release nest, with Prudential’s departure leaving a sizeable hole. So, why should this have happened?
Well, before the credit crunch providers found the equity release market strategically attractive for all the following reasons:
- The UK is fundamentally a nation of ‘homeowners’ and there is an estimated £250 billion of available equity in retired consumers’ homes;
- We have an ageing population;
- There has, and continues to be, a widening of the savings gap;
- Those who have recently retired or are about to retire have a much more aspirational lifestyle;
- House prices kept on rising;
The list goes on.
With the exception of house price inflation, all of these fundamentals listed above still hold true and yet the market has failed to deliver the year-on-year growth in new business with total cash released stalling at about the £1billion level back in 2008.
As stated, on the supply side a number of lifetime mortgage providers have fallen away during the last twelve months with Stonehaven being the latest to announce its ‘temporary withdrawal’ from the market in March. Whether it will return again, or anytime soon, is debatable and in all likelihood it will not be the last to pull out, which will leave even fewer providers to choose from.
Reasons for exits
The reasons for these market exits have been mainly due to the collapse in the securitisation market. It used to be quite simple: go out and lend a lot of your own (or somebody else’s) money. Once you’ve gathered together a large enough tranche of loans, simply sell it on to another institution and use that cash to fund more new business. It was thought that this particular ‘merry-go-round’ would never stop, however it did in 2008, and the music still hasn’t started playing again.
Therefore, in the lifetime mortgage market, the only lending model left intact is that of the insurers who match part of the longevity risk of their annuity book by lending to lifetime mortgage customers. The theory being if annuitants are living too long so will equity release borrowers (and vice versa). So broadly the risk is matched. But now there are only so many of these providers and their appetite to lend is not infinite.
I’m often asked who will fill the gap and why aren’t new providers coming into the market? My view is an optimistic one and I do believe we will see new entrants, however probably not this year. While newcomers may find the market strategically attractive, as long as the global credit markets are squeezed for cash, the nature of lifetime mortgage lending will mean other types of lending are higher up the pecking order when competing for funds. Although, from an investor’s point of view, the interest rates are attractive, the fact that customers don’t make interest payments for the life of the loan makes the lending asset less ‘trade-able’ and therefore other assets with similar interest rates are more attractive due to the interest yield.
One other point which is often overlooked when determining the attractiveness of the lifetime mortgage market for potential and existing providers is the long-term commitment they offer when it comes to releasing future funds. The recent trend in equity release has been towards drawdown products which commit the lender to effectively providing customers with a cash reserve facility for a period of up to 10 years. This is a one-way obligation on the provider’s part – naturally the customer doesn’t have to take the additional funds – and this can be deemed a considerable obstacle to obtaining funding to lend.
In this regard, home reversion funding is somewhat different. Providers are investing in ‘real assets’, i.e. the customer’s property (or part of it). Investors are primarily looking for a long-term return from house price inflation and are therefore managing different risks.
Following the fall in prices since 2008 the base price for UK residential property has reduced which now puts the asset class at a relative discount to two years ago.
Therefore, funding for home reversions has not suffered the same kind of contraction as that of lifetime mortgages. I would also suggest that we will not see a similar kind of supply contraction for home reversions going forward as we have witnessed with lifetime mortgages.
However, in all likelihood the pressures on securing lifetime mortgage funding will probably not go away, at least not in the short-term, which is why I anticipate a pick-up in the number of providers in this sector next year rather than during 2010.
Peter Welch is head of sales and distribution at Bridgewater Equity Release
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