The subprime UK mortgage market is growing fast, as the base of participating lenders increases. Securitization has played an important role for U.K.-based non-standard lenders; for many it's become their preferred access to capital.

According to figures from Royal Bank of Scotland, subprime issuance has grown to GBP9.5 billion for the seven major issues since the public market's inception in 1996. These include Kensington Mortgage Company, Igroup, G-MAC-RFC, Platform Home Loans, Mortgages PLC, Preferred Mortgages and Southern Pacific.

"The intermediary community is becoming more aware," said John Maltby at Kensington Mortgage Company, "Whereas three to four years ago, the market may have seemed too risky." This growing acceptance is attributable to the continued growth in U.K. subprime mortgages, driven by a strong underlying performance of portfolios. Kensington Mortgages has had its first six transactions upgraded.

Bradford & Bingley, parent company of mortgage lender Mortgage Express, recently acquired a loan portfolio worth GBP630 million comprised of 6,000 mortgages from GMAC-RFC. Of the mortgages acquired, approximately one-third by value are buy-to-let, one-fifth are self-certified, and the remainder consists of standard mortgages. The acquisition will increase the Bradford & Bingley group's managed assets by 3%. Platform Home was recently bought out by prime mortgage lender Britannia Building, and Mortgages PLC was bought out by Nikko Pricipal investments. Igroup was consolidated last year into GE Capital.

The growing competition has garnered product innovation. "Lenders are looking at ways to access specific niches," said Maltby. "For example, lenders are now considering self-employed borrowers that have possibly returned to their previous employment - from a credit perspective there is not much risk, and it gives the lender access to a new target group."

According to the RBOS report, more lenders are entering this market in search of yield. The growing interest has led to mainstream lenders redefining the boundary between standard and non-standard borrowers, serving to broaden the market for traditionally non-standard borrowers. This blur between prime and sub-prime has made better access to credit scoring necessary for lenders. Maltby added that Kensington has designed a product that specifically focuses on credit score failure, which would encourage wider distribution.

Growing Distribution

Buy-to-let RMBS is an area that has particularly felt the growth. According to RBOS, the buy-to-let transactions sell at a spread premium of 4 to 5 basis points for triple-A rated tranches, with more spread offered for lower-rated tranches. Securitizers typically combine these types of loans with other sub-prime mortgages, but some lenders will securitize almost entire pools of these loans. "RMBS offer interesting relative value, with benign arrears, very few repossessions, low realized losses and high credit enhancement. Even with a retrenchment in housing prices, pools are generally well seasoned with low LTV loans, especially when compared to prime owner occupied pools," reported the bank.

U.K. lenders are also considering the benefits of expanding distribution in the Euro market. Southern Pacific Mortgages just priced its GBP325 million RMBS transaction last week, and introduced two euro-denominated tranches at the single-A and triple-B levels, which priced tighter than their respective U.K. pound-denominated tranches. The Class A, GBP281.5 million tranche priced at 40 basis points over three-month Libor; the Class M1, GBP18.3million piece priced at 120 basis points over; the M2 10million tranche priced at 105 basis points over; the GBP9 million B1 piece priced at 27 basis points over; and the 16 million B2 tranche priced at 240 basis points over.

"It allows continental investors to pursue a different asset class, and it also gives UK lenders a broader distribution range, " said one source. In the past, the source continued, it was difficult for continental investors to get excited about the Euro market because of a swap counterparty; now its more of a prime asset class, which makes investors more comfortable.

Going forward, the market will follow one of two paths: either the buoyant market continues, encouraging the participation of more lenders, or there is a softening in the market that cuts the competition trend, said one source.

Also in 2003, lenders will have to prepare for new mortgage regulation expected to hit the market some time in the third quarter. The regulation objective is threefold: to improve the level of information available for potential borrowers; to encourage shopping around (mortgage promotions will have to include balance information on benefits and downfalls); and to minimize customer detriment by ensuring that lenders follow good practice.

The impact on leading lenders will be minimal, but the new regulations will likely level the playing field because lenders will now have to compete based on the quality of their product. "It's the smaller intermediaries that are expected to experience the burden of compliance," said Maltby at Kensington. "Some may find it difficult to complete, which could lead to some consolidation on that front. In the end it's a good change because only the strong will prosper."

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