With the wholesale market still closed for much needed funding opportunities, U.K. market players remain cautious about what fallout other U.K. mortgage lenders may face. With one of the U.K.'s major player's, Northern Rock taking such a major hit from an inaccessible wholesale market, its likely that some of the smaller players could also see shares suffering.
To be sure, Paragon, who capitalizes 90% of its lending by selling mortgage-backed bonds with maturities of up to 40 years, saw shares slip by almost 10% last week, wiping GBP28 million ($40 million) off its value. The lender's stock fell 24 pence to 225p following suggestions that the U.K. lender would have to suppress new business growth if the credit markets did not loosen up by February. A statement issued by Keefe, Bruyette & Woods (KBW), a full-service investment bank that specializes exclusively in the financial services sector, said that Paragon had sufficient funding to continue its current rate of growth until February 2008. After that, Paragon would have to turn to the credit markets for cash. If wholesale lending has not returned to Paragon would have to either sell books of loans to rival lenders, or close to new business, said KBW.
But by last Tuesday Paragon shares had bounced by 3.3% to 234.14 pence halting the 16% slump in the past two days. According to market players, much of the mortgage lender's future depends on whether they can access the securitization markets again or whether access to capital has been cut off.
"We see the situation as binary, with the key question being whether the securitization markets remain closed or re-open to the group," said analysts at Credit Suisse. Paragon says that it has enough funding to see itself through the year. Market players worry, however, that if Northern Rock suffered because of its inability to tap the wholesale markets it is likely that Paragon's heavy reliance on the wholesale market will cause it to suffer.
At the moment, optimism continues to dominate talk of the securitization market reopening. The market last week saw some activity from mortgage lender GMAC with a Dutch RMBS deal dubbed E-MAC NL 2007-IV (see story page). There is talk that more lenders may brave the market before yearend, but market players are still cautious about how it may all play out in the end.
If liquidity returns to the market, Paragon would get a chance to clear some of its warehouse lines through securitization financing. Analysts at Credit Suisse said that in such a scenario they would expect the stock to be rerated to around 1.3. That would reflect the values of its on-going business, indicating an upside of up to 65%. But if the securitization market remains closed, however Paragon could be forced to stop new lending. In that case its shares could slide by around 40%, reported Credit Suisse.
The Paragon story is aided by rival U.K. mortgage lender Bradford & Bingley, whose shares jumped nearly 7% last week following an investor presentation about whether the lender would face similar funding problems as Northern Rock. B&B told investors yesterday that it had raised funds through covered bonds and securitization and that the second half of 2007 was "substantially pre-funded". Over the last month the group said in its presentation that it had raised another GBP1.8 billion ($3.68 billion) through private placements and medium term notes and has more of these deals in the pipeline. Furthermore, Fitch Ratings said another UK mid-sized mortgage lender, Alliance & Leicester, was "soundly positioned to weather continued difficult operating conditions," despite near term challenges.
While it's encouraging to see signs of an uptick in share prices along with an upswing in primary securtitization issuance it still remains to be seen what appetite the U.K. consumer will have over the coming months. According to data released last week by the Council of Mortgage Lenders and the British Banking Association, mortgage lending in September fell 12% from the previous month to around GBP30 billion. Analysts at Deutsche Bank said that while lending volumes are still above the reported volumes for September of last year, the increase of 2.5% year-over-year was the lowest seen in two years.
A report carried out by MoneyExpert.Com also indicated that there has been a 13% increase in the number of homeloan rejections over the past six months. "We have warned in recent months about the impending squeeze in front-end liquidity in the U.K. mortgage market, given the broader bank credit crisis and specifically the structured finance repricing," said Deutsche Bank analysts.
Credit Suisse remains cautious about the prospects for buy-to-let appetite. "We still expect securitization markets to re-open, but we remain extremely cautious, with the risk-reward trade-off not attractive to us and would avoid the shares," said analysts in a report last week. "Even if the business is able to continue in its current form, while we continue to see strong fundamental drivers of medium and long term growth in the market, and see Paragon as well placed to capitalize on this, we remain cautious about the prospects of the buy-to-let market over the near term.
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