WRECKAGE FROM US MORTGAGE CRISIS REACHES AUSTRALIAN SHORES
(and the mortgage affected may be yours)
When the basic rules of the game change, the swift and well-informed can take advantage and prosper, or protect themselves and those that they love from major loss. Those who fail to appreciate what is happening may be in for some VERY NASTY SHOCKS.Some people may be reassuring you that you will be unaffected - but taking SIMPLE STEPS will INSURE that if the situation worsens, as it may, you will be sleeping well at night.
Predicting the future is always difficult (ask the weather bureau) but if storm clouds are already visible - it makes sense to consider what you should do if the tempest comes your way. Facts already visible are marked gyrations in the share market and erratic movements in the Australian dollar.
Yesterday, an Australian hedge fund, Basis Yield Alpha Fund applied for Bankruptcy protection (August 29, 2007). (In May 2007 it had assets of $1 billion dollars - so someone has lost a LOT of money.)
Adelaide Bank is increasing interest rates for low documentation (low-doc) loans. No less an authority than the Reserve Bank has said that the volatility in credit markets is likely to end the extensive discounting between mortgage lenders.
So why is this happening?
As Adelaide Bank's chief Jamie McPhee said "credit has been fundamentally re-priced around the globe - it has come out of the US sub-prime market."
So while the rates offered to ordinary depositors have not moved much - wholesale market rates (those that affect the big players) have moved up. (Approximately 50% of Adelaide bank's funding comes from wholesale markets.) This will affect all lenders withAustralia's BIG FOUR BANKS least affected because they have the biggest depositor base.
Adelaide Bank is allowing their low-doc customers to switch to full-doc loans, if they qualify.
Low-doc loans are commonly used by people who don't have their financial statements or similar documents prepared when they apply for a loan, in many cases these people are self-employed. What the Adelaide Bank (and other lenders) is doing is raising the interest rates on those that they believe to be their riskiest customers - or trying to encourage them to convert to a standard full-doc loan (if they can, of course.)
The interest rates for full documentation loans are unchanged.
Doubtless, some of their most extended borrowers will be unable to pay the increased rates and may be forced to put their properties on the market. In recent years there has been a deluge of credit available, tempting people to take on more debt (and risk).
The repricing of credit is also a decrease in the availability of credit.
The headlines have indicated that RAMS home loans are having difficulty in refinancing $6 billion worth of short term debt in the U.S.
The same banks and other lenders, who were deluging you with offers of money for whatever you wanted, may begin to look at you suspiciously, as a possible defaulter. Namely, the game has CHANGED and if you are relatively overextended, the time to move is NOW!
If you have geared yourself to enter the property market, look at your loan to valuation ratio (LVR). Historically, the maximum LVR has been about 80%. The LVR may not revert to its historical average - but that is what it has been in the past.
In their eagerness to get new business, many lenders have lent well above that ratio. In the cold light of a credit crunch, they may regret their decision and try to insure their own positions at your expense.
Many hapless borrowers are already being hit with higher mortgage payments and politicians are bewailing housing affordability. Affordability has fallen drastically in the last 6 years across Australia, but the simple fact is that any rising market needs new buyers.
If, as the all the figures show, affordability has fallen as much as it has, there are a decreasing number of young people who can enter the market. Some investors might have more resources, but with a Federal Election looming, as well as a global credit crunch, caution is the order of the day.
Improving affordability (i.e. FALLING HOUSE PRICES) is a two-sided coin: great if you are looking to get into the market but a disaster if you have recently taken out a big mortgage for a first home. And the property investor, who is leveraged to the hilt in an attempt to grow wealth or provide for retirement, should do the calculations quickly.
With all the uncertainty, tightening lending standards and rising rates, some people MAY BE FORCED TO SELL. If enough people are forced to sell or new buyers are locked out of the market, prices may tend to fall. If this happens, the same lenders who rushed to give you the money may want SOME BACK.
If this scenario eventuates, the not so friendly bankers will say that their valuation of your property has fallen and the loan to valuation ratio is now too high. When this last happened (in 1991), homeowners or investors were told by their lenders to come up with more money quickly or sell the house.
This is where we come back to our hypothetical 80% figure. Look at your LVR at current prices. Then redo the calculation, assuming a fall of 10% in the market price of the property. You will quickly see if a problem COULD eventuate.
While this is only a theory at this stage, looking at your individual situation at an early stage is a worthwhile exercise to avoid major problems down the track.
THE GAME HAS CHANGED - IT IS STILL TOO EARLY TO BE CERTAIN OF THE FULL EFFECTS...
August 30, 2007
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