Korea Housing Finance Corp. plans to more than triple sales of residential mortgage-backed securities to investors, allowing banks to expand home lending without adding to the consumer debt they carry on their books.
The state-run residential loan provider, the sole issuer of RMBS in Korea, expects to sell as much as 30 trillion won ($27 billion) next year, from 8.5 trillion won in 2011, Chief Executive Officer Seo Jongdae said.
“These MBS sales by Korea Housing will help local banks to build indirect experience of securitization with limited costs,” said Ku Yong Uk, a Seoul-based analyst at Daewoo Securities Co. “We need some action to grow this securitization market and this will be a good start.”
A lack of demand for longer term, fixed-rate loans has prevented a securities market from developing in Asia’s fourth-biggest economy. The government is urging lenders to cut reliance on floating-rate, shorter term loans as record household debt hampers them from lending more, while the prospect of rising interest rates adds to the cost of funds.
“Sales of MBS will continue to rise as more local lenders are providing mortgages better fit for securitization,” Seo said in an interview in Seoul.
The market’s development is a necessity for local banks, Ku said. Loan growth at Korean lenders was 7.7 percent in 2011, about half the 15 percent pace in 2007, according to data from Bank of Korea, the central bank.
Standard Chartered Korea Bank Ltd. was the last non-government lender to sell RMBS in Korea, in 2007 and 2008.
The Financial Services Commission asked banks in June last year to lift the ratio of fixed-rate loans to 30 percent from the current 5 percent by 2016 to curtail risks to the economy from household debt and escalating interest charges. Bank lending to households rose to a record 457.8 trillion won at the end of August, the Bank of Korea said on Aug. 8.
“We need to develop the securitization market here to bolster the fixed-rate, long-term loan structure over the next five to 10 years,” said Kim Young Do, research fellow at Seoul-based Korea Institute of Finance, which provides policy advice to financial regulators. “As time goes by, banks will find out what’s the best instrument for the Korean market: RMBS like in the U.S. or covered bonds like in Europe.”
Korean home buyers have typically favored shorter, variable-rate loans. That meant banks had no need to hedge longer-term lending, and historically, floating rates have been cheaper.
Floating-rate mortgages account for 95 percent of home loans in South Korea, compared with 10 percent in the U.S. and 62 percent in the U.K., the FSC said last month, citing figures for 2010. Mortgages paid at once rather than in installments accounted for 41.3 percent of total home loans as of 2010, the regulator said at the time.
The proportion of fixed-rate mortgages rose to 12.5 percent as of May and the rate of one-time payment mortgages, where interest is paid in installments throughout the duration of a loan and the principal repaid at the end, slid to 37.6 percent of total mortgage lending, FSC data showed.
Korea Housing, established in 2004 to provide residential funding, including long-term mortgages for lower-income and middle class people, has issued 10.6 trillion won of RMBS so far this year, according to the company. The issuance accounts for about 3 percent of South Korea’s bond market, according to the company. The value of outstanding bonds denominated in the local currency was $1.3 trillion as of June 2012, according to data from the Asian Development Bank.
Australia and Japan have the two most-developed MBS markets in the Asia-Pacific region. In Australia, mortgage bond sales reached a four-year high of A$22 billion ($22 billion) in 2011 as the market recovered from the U.S. subprime collapse, according to Standard & Poor’s data.
In Japan, the market for residential mortgage-backed securities expanded to 2.7 trillion yen ($34 billion) as of March 31, from 32 billion yen when it first started in 1997, according to Junichi Shimizu, an analyst at Deutsche Bank AG.
Similar to South Korea, the Japan Housing Finance Agency, which has 33.6 trillion yen in assets, is the biggest seller of bonds backed by mortgages, according Shimizu. The organization buys housing loans from financial institutions and sells them as RMBS to investors.
Seo said Seoul-based Korea Housing will sell about 20 trillion won of RMBS by the year-end, 9 trillion won of which would be from securitizing its own pool of mortgages, the rest from loans made by local banks.
In March, the agency introduced criteria for a standard loan to encourage local lenders to shift to long-term fixed-rate mortgages from short-term variable ones, which are often cited as risky for debtors in times of rate increases. The Bank of Korea raised the key policy rate five times, by a total of 1.25 percentage points, since July 2010, before it cut the rate by a quarter percentage point in July.
Banks can elect to sell mortgage loans that meet the criteria if they opt to transfer the loan to Korea Housing for MBS issuance.
“Sooner or later, I expect more than 80 percent of domestic mortgage loans will have a long-term, fixed rate structure,” Seo, 52, said.
Mortgage loans by banks climbed by 387 billion won to 311 trillion won, the lowest monthly increase in six months, according to a central bank report on Aug. 8.
Margins at Korean banks have been squeezed, with lenders having limited room to raise lending rates as retail borrowers tapped less loans from banks due to a sluggish home market. Companies are preferring direct financing such as selling bonds.
Moody’s Investors Service raised South Korea’s sovereign debt rating by one level to Aa3 from A1 on Aug. 27, citing the economy’s resilience to shocks. The ratings company said it expects the government to support Korea Housing and five other South Korean state-run financial entities, given their links with the government, Moody’s said.
“Our credit rating is on par with South Korea’s sovereign rating and our securities are guaranteed by the government,” said Seo, who took office in November. “With limited supply in long-term Treasury bonds, I’m sure our MBS can be a good alternative for overseas investors such as pension funds and insurers.”
Seo said he is planning to meet potential overseas investors.
Korea Housing in 2010 sold Asia’s second covered bonds following a sale by Kookmin Bank, the nation’s biggest lender, in 2009. The $500 million of covered notes were priced to yield 3.5 percent, or 218 basis points more than similar-maturity Treasuries at the time, according to data compiled by Bloomberg. The bond now yields 2.109 percent, according to data compiled by Bloomberg.
Covered bonds, mostly sold by European banks, attract higher ratings than regular notes because they’re backed by assets that stay on the lender’s balance sheet and that can be sold in the event of a default.
While there’s limited need for foreign-currency funding for Korea Housing, the company may consider selling another foreign-currency denominated covered bond after next year to keep its presence in the international financial market once South Korea finalizes rules governing the sale of such debt, the CEO said. The financial regulator drafted regulation on covered notes for submission to lawmakers in November, the FSC said in June.
Banks will need a strategy to hedge risks because of the regulatory pressure to shift toward fixed-rate long-term lending and the securitization market will grow because of that, said Kim Pil Kyu, senior research fellow at Seoul-based Korea Capital Market Institute.
“Banks will first rely on the RMBS market cultivated by Korea Housing, but some day they’ll definitely grow the market that can help them liquidate their assets,” said Kim. “The time for competition over asset scale is gone. They will have to find a new paradigm for better risk management and embrace the asset liquidation.”