While the concept of mortgage insurance has remained relatively unknown in Europe, PMI Europe - which set up shop some three years ago - is hoping to change that.
Earlier this year the group appointed Christian Pierotti (see ASR 6/11/05) as head of its governmental affairs to spearhead its lobbying efforts on the regulatory front. Pierotti said that PMI Europe has worked on the Capital Adequacy Directive incorporating the Basel II rules regulating capital adequacy across the international banking industry. On Sept. 28, an amendment to the mortgage insurance regulation was put to a vote and brought before the European Council, which may allow the use of mortgage insurance across the European banking industry.
The amendment achieves a better appreciation of how mortgages function across different levels - until now Basel II did not incorporate this concept. The amendment dealt with how a mortgage guaranty should function. "Before it basically said that when something defaults the guarantor should pay off. That's fine and well when you are talking about massive airplane leases or some sort of grand asset," said PMI Europe CEO Tony Porter.
"The problem with mortgages is that borrowers frequently default, but usually only temporarily," said Porter. "It is because they went on vacation and didn't pay their mortgage, or they lost their job for a few months but they have no intention on giving up their house. So we made the argument that an adequate guarantor doesn't have to pay off instantly, at the moment of that first missed payment."
It's the first recognition on behalf of regulators of the importance of mortgages but the products available are varied and need to be reflected within accounting regulations. That concept will now be carried over to the national level.
"If you see the European mortgage banking landscape is very local and two of the benefits that PMI provides is that we take the risk out of the banking sector into another sector - the insurance sector - and then we spread it globally," said Perrotti. "It's an important function especially for some countries, like Germany, where mortgage lending is a very local business and it is very vulnerable to events happening in a small geographic area."
PMI Europe has offices in Dublin, Milan, and Brussels and is in the final stages of opening an office in Germany. So far the major thrust of its business in Europe has been the capital markets part of the business where PMI works with lenders on enhancing a mortgage pool or selling protection on a synthetic transaction. PMI has completed two of these deals already this year and has four deals in the pipeline they are working to close by the end of the year. The competition has grown among European buyers of first loss pieces over the
But straightforward mortgage insurance is what PMI is focusing on in Italy and the U.K., while it awaits regulatory approval to offer the product in the rest of the continent. "In terms of us being a credit enhancer on cash MBS that rolls into the market like you would see in our Aussie or U.S. business, that isn't yet happening on the continent to a material level," added Porter. "Our product has not existed there before. Only in the last couple of years has a company like ours stepped on the continent and said hey we are here to take your mortgage credit risks.' So it will take a little time for mortgage credit insurance to penetrate the market and appear consistently in securitizations."
Porter added that mortgage insurance will also take off when regulators recognize that transferring credit risks to another institution, like PMI, will lead to some reduction in the required capital retention needed for regulatory purposes. Banks needing to asses credit risk and the need to diversify via alternatives like securitization, as well as potentially using insurance to remove credit risk off their balance sheet are PMI's targets, according to Porter. Porter also said that regulators need to consider insurance and consider an appropriate credit for it.
These same incentives could apply to Europe's growing covered bond market but, at the moment, covered bond legislations - with the exception of France - do not allow for another guarantor to come in and alter the covered bond in any way. "We are working to change that, so that either high LTV loans or the whole pool can be guaranteed in some form and maintain the integrity and high ratings of the resulting covered bonds," said Porter. "Covered bonds typically restrict funding to 60% to 80% of the loan value. If we say we will cover the [percentage] above this, it gives better funding to the whole loan amount and provides greater funding to the lender and ultimately the consumer."
In the U.K., where covered bonds are executed without a specific framework, Porter said the same constraints did not exist and that PMI was in talks with some issuers to come in as guarantor. But at the moment, covered bonds remain a relatively small part of U.K. lender's funding schemes, therefore funding 50% to 70% LTVs in a covered bond is permitted. But as penetration increases, banks will recognize that they are not funding 100% of originations and will want to move further up in LTV and fund deeper into their mortgage set. "When that market gets to that point then we'll come forward," he said.
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