June 7 (Bloomberg) -- Macquarie Group Ltd. spent the last decade building a global investment business only to see returns shrink as an economic slump slowed securities trading and curtailed mergers and acquisitions. It’s now finding some of the highest returns lending back home in Australia.
Macquarie is the nation’s fastest-growing mortgage lender in the country’s A$1.4 trillion ($1.3 trillion) market, lured by return on equity topping 70 percent as funding costs fall and the country’s housing market recovers. Home loans on its balance sheet rose to A$6.8 billion as of March 31, more than doubling from a year earlier to become the second-biggest asset in the bank’s loan portfolio, stock exchange filings show.
Australia’s largest investment bank is seeking to increase its return on equity, a measure of how effectively the bank invests shareholder funds, which is near a record low as its securities unit posts losses while investment banking volumes in its home market are on track for the third consecutive year of decline, data compiled by Bloomberg show. Macquarie joins Australia’s major banks in honing their mortgage offerings as funding costs at a five-year low and record low interest rates boost profitability.
“If you are funding home loans with wholesale money, returns are quite phenomenal,” said Brian Johnson, a Sydney-based bank analyst with CLSA Ltd. “Macquarie has surplus capital, and they have surplus liquidity that they haven’t been able to deploy elsewhere.”
Australian mortgages can generate a return on equity of as much as 70 percent, compared with almost zero two years ago when funding costs were high, Johnson estimated. Macquarie’s return on equity rose to 7.8 percent in the 12 months ending March 31 from 6.8 percent a year earlier.
“We do think mortgages are a good business for Macquarie,” Chief Executive Officer Nicholas Moore said on May 3 in an interview. “We are optimistic it will grow.”
Macquarie, which has originated home loans for more than 20 years, retreated from the sector in 2008 as global funding costs rose ahead of the collapse of Lehman Brothers Holdings Inc. It held A$1.8 billion of Australian home loans on its balance sheet as at Sept. 30, 2008, having securitized the majority of the A$21.2 billion of its outstanding mortgages, according to Macquarie’s filings.
Having bought global assets including advisory firm Fox-Pitt Kelton Cochran Caronia Waller and the equity derivatives and structured products business of Sal. Oppenheim jr. & Cie AG & Co KGaA -- announced in 2009 -- Macquarie has seen profits of its investment bank and equity trading unit fall.
Macquarie’s investment bank posted an A$150 million profit in the year to March 2013, compared with an average profit of A$700 million between 2007 and 2011. Its equities trading unit reported a A$50 million loss compared with an average $600 million for the five years to 2011, filings show.
Last year it exited the derivatives business in the U.S., Europe, Asia and South Africa. Its trading and investment banking units have seen the deepest job cuts among its business units over the last three years as the bank shores up its lending, leasing and funds businesses.
The bank’s shares closed 0.3 percent lower at A$40.33 in Sydney, compared with a 0.9 percent drop for the benchmark S&P/ASX 200 index. Macquarie has risen 14 percent this year.
Flush with Australian deposits and surplus capital and with the cost of raising money from global bond markets at the lowest since November 2007, Macquarie is now holding on to a majority of the mortgages it has outstanding. As of March 31, Macquarie had a total of A$11.8 billion with only 42 percent of those securitized, filings show. The value of Australian mortgages on its balance sheet hasn’t been higher since it began disclosing this data.
The average spread between yields on Australian dollar-denominated bank debt and government bonds last month fell to a 5 1/2-year low of 130 basis points from 321 basis points a year earlier, according to Bank of America Merrill Lynch indexes. The 191-basis-point fall compares with a drop of 152 basis points in a comparable global index for the same period.
“A rapid reduction in credit spreads and mortgage repricing implies that writing a new wholesale-funded home loan has never been more profitable,” UBS AG analysts led by Jonathan Mott wrote in a note to investors in February. Even when the loan is funded 75 percent from deposits, profitability remains at “elevated” levels.
Australia and New Zealand Banking Group Ltd and National Australia Bank Ltd. both reported in the six months to March 31 higher net interest margin, a measure of lending profitability, for the units that house their mortgage business. The lenders offer a standard variable mortgage rate of 6.13 percent, the lowest among the four major banks. NAB’s personal banking business reported a 7 basis point increase in net interest margin to 2.09 percent and ANZ’s Australian division saw an 8 basis point rise to 2.53 percent in its net interest margin.
“Banks’ return on equity from mortgages is well above the historical trend of 30 percent. Mortgages are a very profitable business now,” David Ellis, a banking analyst at Morningstar Inc. said by phone.
Mortgages are now Australian banks’ strongest area of growth even as their total lending expands at close to the slowest pace on record, according to Reserve Bank of Australia data. Housing credit grew 4.5 percent in April from a year earlier while personal lending dropped 0.2 percent and loans to business increased 1.4 percent, the data show.
More housing activity follows the RBA’s two-percentage-point cut in its cash rate target since November 2011 to a record low 2.75 percent to boost consumption and confidence as mining investment peaks. Major banks have so far passed on between 154 and 167 basis points of the central bank’s reductions with home loan rates at their lowest since 2009, according to RBA figures and data compiled by Bloomberg.
Australian home-loan approvals rose 5.2 percent in March from February, the biggest monthly increase in four years, government data showed May 13. House prices increased 2.6 percent last quarter from a year earlier, according to a statistics bureau report May 7.
Westpac Banking Corp., the second-largest mortgage lender, cut its one-year fixed home-loan rate to a record-low 4.79 percent from May 20. Commonwealth Bank of Australia, the country’s largest by market value, today dropped three-year fixed-rate home loans to 4.99 percent and said its fixed rates are at a 23-year low.
Lower interest rates, by reducing the debt burden on borrowers, are also keeping default rates down. Australian home loan payments more than 90 days late fell to the smallest level since December 2010 in the fourth quarter of 2012, Fitch Ratings said in April. The overdue payments on home loans underlying Australian residential mortgage-backed securities fell to 0.55 percent in the three months to December from 0.63 percent in the prior quarter, according to the London-based ratings firm’s Australian residential mortgage performance index.
Macquarie is deploying surplus cash and capital on its balance sheet to mortgages. The bank held a record A$31 billion in retail deposits as at March 31, with A$17.5 billion of that in cash management accounts that pay the same interest rate as the central bank’s cash rate target, stock exchange filings show. It has A$3.4 billion in surplus capital.
Macquarie takes home loan applications directly and also distributes through Yellow Brick Road Holdings Ltd., Homeloans Ltd. and other mortgage brokers. Macquarie bought an 8.3 percent stake in Yellow Brick Road in December and on April 16 announced it bought a 19.8 stake in Homeloans.
Macquarie is coming off a small base. It had a 1 percent market share in the Australian mortgage market as at April 30. Australia’s four major banks together have an 85 percent share, according to Australian Prudential Regulation Authority.
The bank’s push into mortgages comes as revenue from what it calls annuity-style businesses such as funds management, lending and leasing contributed 49 percent of its revenue in the 12 months to March 31 compared with 29 percent in 2007. Macquarie is leaning on these businesses to drive growth as revenue and profits from trading and investment banking drop amid weak markets.
The bank expects the annuity style businesses to lift its return on equity, which is still a quarter of the 29.8 percent in 2005, filings show.
“Mortgages are a high ROE business and Macquarie wants to enhance its return on equity,” James Ellis, a banking analyst at Credit Suisse Group AG said by telephone. “They have adequate funding and capital. They are certainly accelerating their momentum in their Australian mortgages.”
To contact the reporter on this story: Narayanan Somasundaram in Sydney at email@example.com