"It's Our Version Of The GFC": Aussies Face Looming 'Interest-Only' Crisis

Authored by Caitlin Fitzsimmons & Nicole Pedersen-McKinnon via The Sydney Morning Herald,

Australia’s version of the sub-prime crisis that ushered in the global financial crisis could be looming, with a significant number of the 1.5 million households with interest-only loans likely to struggle with higher repayments, experts warn.

Martin North, the principal at consultancy Digital Finance Analytics, said interest-only loans account for about $700 billion of the $1.7 trillion in Australian mortgage lending and it was “our version of the GFC”.

“My view is we’re in somewhat similar territory to where the US was in 2006 before the GFC,” Mr North said.

Craig Morgan, managing director of Independent Mortgage Planners, said one in five people who took a loan two or three years ago would not qualify for the same loan now, because of the crackdown on lending by the regulator and ongoing fallout from the Royal Commission into financial services.

“In the last six months lenders have had this lightbulb moment of what ‘responsible lending’ means,” Mr Morgan said.

Should we brace for a financial storm?

One of the triggers for the GFC was rising defaults from over-leveraged borrowers who were unable to refinance when their honeymoon rates ended. However, the sub-prime lending in the United States before the GFC included large mortgages being given to people without jobs or on minimum wage.

“This is absolutely not ‘sub-prime’ in the US definition but there were people [in Australia] who were being encouraged to get very big loans on the fact that principal & interest was impossible to service but they could service interest-only,” Mr North said.

“We also know that some interest-only loans were not investors but they are actually first-home buyers encouraged to go in at the top of the market.”

The Reserve Bank has previously warned $500 billion in interest-only loans are set to expire in the next four years, causing a significant jump in repayments of 30-40 per cent when borrowers are forced to start paying back the principal.

The banks pushed interest-only home loans – where the borrower pays interest but never reduces the loan balance - over the past five years, because they enabled people to borrow bigger amounts. They were favoured by investors who could claim the interest as a tax deduction and were often looking to pay the minimum in order to cross-leverage and buy multiple properties.

The typical structure of a such a loan has interest-only repayments for five or sometimes 10 years, at which point it reverts to being principal & interest with repayments 30-40 per cent higher. The lending criteria has tightened in the past six months to a year, so many borrowers would be unable to refinance to another interest-only loan.

Mr Morgan warned the jump in repayments could be higher than the 30-40 per cent forecast by the Reserve Bank, because many people would not qualify for a new 25 or 30-year loan and would be forced to repay the principal over a shorter period.

Mr North dismissed this risk. “Most banks are willing to lend up to the full term as if it were a new loan,” he said.

His modelling suggested $120 billion of interest-only loans would fail tighter lending criteria over the next three years; about two in three of those loans would be able to accommodate a switch to paying the principal, while one in three would be forced to sell.

Photo: Fairfax Art and Design

Mr North said a lot of households were “struggling a little bit” because wages were flat and costs were going up. “It’s enough to give a bit of a shock to the banking system here and to put a number of households under pressure,” he said.

RBA assistant governor Christopher Kent said in April the bank’s data suggested many borrowers would have savings to help them meet the higher payments, and others would be able to refinance their loans. He said only a "small minority" of customers would have trouble when their interest-only term expired.

James Keillor, a senior credit consultant at Oxygen Home Loans, said tighter lending standards meant it was “difficult if not impossible” to refinance if you had borrowed at your maximum in recent years but he was optimistic about the capacity of borrowers to absorb the higher costs.

He pointed out lenders had assessed borrowers’ capacity based on principal & interest at current interest rates plus 1-2 per cent and added that the current low interest rates had allowed many homeowners to build a buffer.

“Most borrowers in my experience generally pay more than the minimum, or utilise an offset facility to build cash reserves,” Mr Keillor said. “Most will adapt reasonably well as they are already making repayments in excess of the minimum.”

Comments

galant Oldguy05 Mon, 07/23/2018 - 05:49 Permalink

Bail-in.

The Australian Prudential Regulation Authority has effectively acquired Cyprus-style bail-in powers since 2008.

 At the height of the 2008 GFC all of Australia’s Big Four banks were poised to fail, averted only by the Rudd government’s guarantees. 

Now bond-holders and depositors are on the chopping block.

In reply to by Oldguy05

Element WernerHeisenberg Mon, 07/23/2018 - 01:38 Permalink

A lot of these loans are for rental investments, not for owner dwellings, so the tenants will be gouged to pay the interest on rising rates, and provide the investment return.

 

Except the tenants are already over-stretched, so won't be paying any more to save the owner's bacon, who's own family home was no doubt their loan collateral, as well as the rental property.

What a lovely little mess. Big thank you to the Banksters (looking at you Mal).

In reply to by WernerHeisenberg

Mentaliusanything QueeroHedge Mon, 07/23/2018 - 05:20 Permalink

You are kidding! Auction clearance rates below 45% Builders of units also on interest only construction loans and forced to rent to imported goat fuckers who are "self employed meal deliverers or Uber losers to appeases the Banks insatiable want for money to cover the loan, body corporate not being paid by developers, Higher and Higher vacancy rates and you think 10% increase in rent will do it ? Hahahaha! goat fuckers strip the place, move out and another name like "Abdul Fuckurass" rents the next Ebay "stripper". Your delusional old son.

In reply to by QueeroHedge

Know thyself curbjob Mon, 07/23/2018 - 02:25 Permalink

Interest only loans for houses are OK as long as the value of the underlying asset rises over time, because you actually "own" the asset and can sell it at the end of the term to pay back the principal; and keep the balance.

Basically it's borrowing to speculate on house prices continuing to rise.

What could possibly go wrong ?

In reply to by curbjob

keep the basta… reddpill Sun, 07/22/2018 - 23:46 Permalink

Exactly, interest only loans to investors so called but parasites like politicians wth up to 30 homes, put the interest against tax.  

Then sell at some time to take an expected capital gain. This article ignores the price falls now and expected.

about 40% of home buyers were “investors”. Refinancing if house value has dropped will not be so favourable. Refinancing in a falling market not such a great rort when rental occupancy rates are changing, more vacancies.

In reply to by reddpill

Mentaliusanything philipat Mon, 07/23/2018 - 05:31 Permalink

You are correct PHilpat !!!! ANZ perfected the "Mortgagee in possession" rort, to steal every bit of Capital gain and deposit the investor had in a property. The others now follow suit and they hold these properties while they bill the poor indentured slaves for everything they had, including the "Maintenance", Lawn keeping, Cleaning fees, Monthly Re Valuations, Default charges, Building inspections, Document perusals, Legal fees, advertising, and all and every selling cost you can possibly imagine..... MONTHLY. "Asset stripping" it is called and it's Legal. They hold the property and you can take a flying leap because they own you and your future to your dying day, including Garnishee of wages and salary to 30% until the accrued debt is Paid.

How do you like those Apples Mate! 

In reply to by philipat

vladiki reddpill Mon, 07/23/2018 - 00:56 Permalink

You're not getting it.  Property anywhere anytime can't KEEP rising faster than wages.  That's just arithmetic.  Australia's long love affair with property has been on steroids for 18 years now.  Banks, promoters, financial advisers and even sections of government, have been driving the Ponzi (that's what it is - cash flow negative and dependent for success on endless capital gain). Half of Parliament is into it.  The average buyer - investor or owner-occupier -  thinks this is just the magic of the Aussie property market and sees no end to it.

The 18 year boom has been due to specific factors (1) population increase by 50% in 40 yrs due to accelerating immigration (2) they all settle in the major cities, so (3) relative shortage of supply (4) tax subsidies favoring investors i.e. negative gearing during ownership + 50% CGT deduction on sale - to the point that more houses were being bought by investors than owner occupiers (5) progressively falling mortgage rates 2y to artificial rate suppression overseas, that the RBA has been forced to follow (6) lenders in Aus short of local deposits sourcing > 50% of their funds from huge overseas capital markets at low rates (7) Chinese buying - like Vancouver (8) bonus-fixated bankers pumping loans as fast as they were able (9) dramatic rise in interest-only lending to > 50% (10) regulators initially blind to the issue then frightened to do anything about it (11) foolish govt that sees housing as wealth creation, when its only wealth transference (12) most importantly - no recession for 25 years; due to China's massive appetite for raw materials. There's a generation in Aus that has no conception of recession, wouldn't believe it could happen, who've been encouraged by lenders to buy everything on credit.  So Aus has the 4th highest personal debt in the world, there was no deleveraging after the GFC, and it's still rising.

Several of these factors are now reversing, some rapidly. Just how far property will fall is unknown but largely dependent on China, because if China sags then Aus will hit the deck and its banks will cop a hiding.

 

In reply to by reddpill

ForTheWorld RafterManFMJ Mon, 07/23/2018 - 01:00 Permalink

You're so close to the truth it's not funny. Or it is. I can't decide.

Take a drive through new suburbs in Canberra, where prices keep increasing, and you'll find plenty of new apartments (which is basically all that gets built these days) with bed sheets for curtains, and no covers on their lights because, well, they didn't have the money or didn't want to pay for those things. Even a 2nd coat of paint costs more than some people can afford.

The same thing has happened in Sydney and Newcastle. I worked with people who would harp on about interest-only loans like they were the best thing ever, because they'd sell before they had to increase their payments. They haven't sold though, and now they've all got big bags to hold.

In reply to by RafterManFMJ

yarpos RafterManFMJ Mon, 07/23/2018 - 02:28 Permalink

Actually it has worked well for investors over recent decades.  Its been very easy to cream good money out of the property market.

You need to understand the tax regime around it,  and comparing to the US is a bit nonsensical.  All these people are meeting their payments and a bit of tweaking by the banks rather than going for the jugular will see people through.   Against the backdrop of the current Commission examining banker behaviour I doubt the nuclear option is in play.

These days the music has stopped or at least slowed.  The people making money now are the clean up crews trading on others disasters and the very knowledgable investors that are truly picking markets/locations and adding value.

In reply to by RafterManFMJ

Handful of Dust Sun, 07/22/2018 - 22:37 Permalink

Those no interest loans that you can get with no job, no assets and no down payment are partially the cause for this entire global buibble.

The system would have corrected itself if CBs had let the fraudsters go bankrupt instead of bailing them out for the past 10 years.

 

52821740 Handful of Dust Sun, 07/22/2018 - 22:59 Permalink

Don't confuse the US and Australia.  What you just stated is not possible nor has it been possible in Australia.  The Australian banks will comfortably handle an increase in defaults which won't be flood like happened in the US because lending standards in Australia have been much tighter, LVRs much higher and they are much better capitalised. 

 Please all panic sell the Australian banks so I can buy them at lower levels. 

In reply to by Handful of Dust

AUD 52821740 Mon, 07/23/2018 - 05:14 Permalink

Yes, the RBA did get tens of billions in USD from the Fed in 2008. They call it 'currency swap' but that's just a fancy name for bailout. There was a run on the entire Australian banking system.

And the government support means the banks can still make merry 'cause the government has their back, transfer of money or not. The quality of assets on the balance sheet of Australian banks has not improved, only become shoddier.

In reply to by 52821740

Socratic Dog keep the basta… Mon, 07/23/2018 - 09:54 Permalink

I would love to see widespread bail-ins.  Nothing would pull the sheeples' heads out of their bums like losing every penny they had.  They might finally awoke.

I suspect that bail-ins are the final, nuclear option for that reason.  They'll only happen when our (((masters))) are ready to pull the plug on the current system.  They'll be the final act of theft, ensuring that (((they))) own everything when the new system starts up.

Wonder if they teach that at the universities?

In reply to by keep the basta…

vladiki 52821740 Mon, 07/23/2018 - 01:20 Permalink

lending standards in Australia have been much tighter, LVRs much higher and they are much better capitalised.

You've been reading old press releases.  Aus banks are far more dependent on mortgage lending than overseas - "glorified building societies".  No one's saying they're going to fold, but what's certain is that they'll be less profitable because mortgage lending is already on the dive, and there's nothing to replace it.  Aus' biggest bank, CBA was AUD 35 ten years ago.  It rose to AUD95 BECAUSE of mortgage lending expansion and cash rate suppression, and it's already off 21%.  That falling knife has (lots?) further to fall.  Be patient.

In reply to by 52821740

52821740 vladiki Mon, 07/23/2018 - 10:33 Permalink

You haven't told me anything I don't know and what I said is still true.  As  I said I'm waiting for a significant drop before buying them. I put over 1 million dollars  of my own money into them during the lows of the GFC so its likely I have been researching them  more than most of the people on this forum.

In reply to by vladiki

Nexus789 Sun, 07/22/2018 - 22:45 Permalink

They are in massive denial here in Australia. The political class are next to hopeless and are drowning in the neloliberal economic kool-aid.

 

It has been estimated that all tiers of politicians from federal to local have property investments that nationally total over a billion dollars. Slight conflict of interest. 

 

Mortgage stress is increasing without a rise in interest rates or an economic downturn. It is a financial bomb primed to go off soon.

 

PS. They are also flooding the country with third world losers to try and fill all the crappy high-rise dog boxes they have built.