Competition and choice in retail banking - Treasury Contents

Written evidence submitted by the Paragon Group of Companies


1.  The Paragon Group of Companies welcomes the opportunity to submit evidence to the Treasury Select Committee's current inquiry into competition and choice in the banking sector.

2.  We are the UK's leading specialist provider of residential mortgages to professional and investor landlords. We launched our first specifically targeted private rented sector mortgages in 1995 and have increasingly specialised in this market over the last 15 years.

3.  The company has been publicly-listed for the last 25 years and is currently the UK's third largest lender of privately rented residential property finance. We have approximately 40,000 landlord customers and manage £10 billion of loan assets. Our buy-to-let arrears, at 0.97%, currently stand at less than half of those typically achieved in the owner-occupier market.

4.  As a non-deposit taking lender, Paragon has extensive experience in the securitisation markets. We were the first to undertake a securitisation in the UK almost 25 years ago and we have successfully completed more transactions than any other market participant, all of which have been straightforward, transparent and low-risk.


5.  The key points of our submission are as follows:

—  Non-deposit taking lenders utilising securitisation were the mainstay of many of the more specialised parts of the UK mortgage market prior to the credit crunch, providing vital competition to the major banks and an important source of choice for consumers.

—  Securitisation played a vital role in the UK mortgage market more generally, accounting for 80% of the net funding needs of the mortgage industry in the 12 months before the credit crunch.

—  Fundamental problems in the US housing market—not the securitisation model itself—contaminated the global wholesale funding process and caused the liquidity issues that still persist today.

—  Non-deposit taking institutions, such as Paragon, that draw primarily on securitisations to fund new lending have been impacted negatively by the impairment of credit markets. Despite remaining profitable, our ability to make new advances has been severely constrained.

—  Government and Bank of England support packages have to date been skewed in favour of the mainstream banking sector. Non-deposit takers have been excluded, placing them at a significant competitive disadvantage.

—  Competition in some lending markets has been eradicated by the lack of wholesale funding availability, with many of the major banks not engaging in sectors traditionally served by non-deposit takers.

—  In the case of the buy-to-let market this has serious social consequences—a shortage of funding for private rented homes is emerging at a time when people are increasingly unwilling or unable to enter the owner-occupier market and the social housing sector is already at full capacity.

—  Ensuring that credit flows are sustained and that competition in lending markets is increased will be crucial to the recovery of the British economy and, within the housing sector, to a stable and growing private rented sector. Reinvigorating securitisation markets lies at the heart of this.

—  We welcome the Government's focus on reviving securitisation and would urge HM Treasury and BIS to look at ways of improving non-banks' access to warehouse funding—a key element of securitisation that remains highly challenging and is limiting the recovery of wholesale-based lending


6.  The main business model utilised by non-deposit taking lenders involves the aggregation of mortgages into a warehouse facility, with funding provided by banks until public securitisation allows debt to be raised through the issuance of bonds. Lenders whose business is based on this model rely on securitisation for long term funding and have been the mainstay of many of the more specialised parts of the UK mortgage market. Securitisation has therefore played a vital role in the UK mortgage market. In the twelve months prior to the credit crunch, 80% of the net funding needs of the UK mortgage industry were provided by the capital markets through securitisation.

7.  As a result, the non-deposit taking sector, funded in the main by the securitisation markets, provided a vital source of competition for mainstream banks in the mortgage market in advance of the credit crunch. This helped to drive product innovation and a diversity of finance for consumers in a stable way, and without any of the risk associated with many mainstream banking practices in recent years. It has been more fundamental problems in the US housing market that have contaminated the global wholesale funding process and resulted in the liquidity issues that still persist today.

8.  The example of Paragon demonstrates how securitisation has been—and can in the future be—used responsibly. We pioneered the use of Asset-Backed Securities in the UK and have securitised £19.5 billion of first mortgages and consumer loans through 53 public transactions. All continue to perform well and we have no exposure to any toxic assets, having neither originated nor acquired such assets.


9.  The impact of the credit crunch was particularly severe on the availability of funding from the capital markets for non-deposit taking institutions and as a result, such lenders have been unable to compete in the mortgage market since 2007. As a result, we are unable to secure the necessary warehouse funds on economic terms to originate new mortgages to private landlords. The wider non-deposit taking sector is in a similar position.

10.  There have been some signs in recent months that the market for Residential Mortgage Backed Securities (RMBS) is improving. Investor appetite has increased across the credit spectrum and recent deals have attracted a large number and greater range of investors. However, the market remains fragile and requires nurturing and support.


11.  Competition in some lending markets has been eradicated by the lack of wholesale funding availability, with many of the major banks not engaging in sectors traditionally served by non-deposit takers. Bank of England figures show that specialist mortgage lenders accounted for just 3.7% of new mortgage lending in 2009 compared to 21% in 2007. Specialist lenders provide an important source of competition for mainstream lenders, ensuring product innovation and consumer choice.

12.  The buy-to-let market is an example of a specialist lending sector that has been adversely impacted by the closure of the wholesale funding markets. The availability of buy-to-let mortgage products for landlords has declined by over 90% since 2007 due to the forced withdrawal of non-deposit taking lenders the focus of high street lenders on their mainstream residential mortgage businesses. The buy-to-let market is now dominated by just two lenders, Lloyds and Nationwide, which together account for approximately 80% of the UK's buy-to-let business and face little competition in this important part of the market.

13.  The decimation of product availability in this particular market is not due to a lack of demand from investors or concerns about the credit quality of the product. Buy-to-let lending, when underwritten appropriately, is high-performing and reliable and arrears in the buy-to-let market have outperformed the wider market for 34 of the past 38 quarters. Paragon's arrears levels remain significantly below those of the wider mortgage industry and industry peers. We are also experiencing robust demand for new loans from our customers, but we are unable to satisfy this demand due to funding constraints.

14.  Due to the dysfunction in capital markets, non-deposit taking institutions such as Paragon, which were core providers of finance for investment in the private rented sector before the credit crunch, have been unable to extend loans to new landlord customers. This has potentially very serious social consequences that should not be overlooked, such as increased levels of homelessness.

15.  Demand for private rented sector accommodation has expanded significantly in recent years due to a combination of short-term economic factors and longer-term structural changes, such as a growing population, increasing numbers of single person households, expanding numbers of students and economic migrants and the general housing shortage. Proposed changes to the financial regulator environment are also likely to reduce the availability of residential mortgages as the Financial Services Authority clamps down on interest-only and self-certified loans. There is increasing evidence of a shortage of properties and there will be upwards pressure on rents without new investment by private landlords. The Royal Institution of Chartered Surveyors reported in August that the proportion of surveyors reporting rent increases rather than falls was growing.

16.  Market domination by two lenders—as is the case in the buy-to-let market at present—is both non-competitive and of detriment to private landlords and private tenants at a time of rising tenant demand. There continues to be little competition and choice for borrowers in this market.


17.  Ensuring that credit flows reach consumers and businesses continues to be key to the recovery of the British economy. The securitisation market lies at the heart of this and its continued fragility is being felt on the wider market in the form of poor competition and choice for consumers.

18.  Both the coalition government and the previous administration have recognised the importance of securitisation markets to the future of mortgage finance. The previous administration's Guarantee Scheme for Mortgage-Backed Securities provided some lending support, but excluded non-deposit takers, skewing the market in favour of mainstream banks and placing non-deposit taking lenders such as Paragon at a competitive disadvantage. Furthermore, the expiry of this facility has exacerbated the funding gap that currently exists in the market, which will get considerably larger as the Treasury and Bank of England's liquidity support schemes also expire over the next two years. The Council of Mortgage Lenders estimates that there will be a £300 billion mortgage funding shortfall over the next five years due to lenders having to repay Government support schemes.

19.  We are encouraged by the acknowledgement of HM Treasury and the Department of Business, Innovation and Skills that securitisation is important as a funding source for banks and non-bank lenders alike in their recent joint consultation on "Financing a private sector recovery". Reinvigoration of the securitisation market is essential to future recovery as retail deposits alone were insufficient to support lending before the credit crunch and will not be sufficient to support sustained mortgage availability moving forward.

20.  In particular we would urge the Government to explore ways of improving non-banks' access to warehouse funding—vital to the revival of the securitisation market—on more acceptable terms. We will be submitting our views to Government on this issue as part of its consultation.


21.  It is important that Government supports the financial community to address dysfunction in the wholesale funding markets, especially as both securitisation markets and the wider economy remain fragile. We urge HM Treasury to form a securitisation forum to facilitate a full and frank discussion with RMBS market participants about the measures needed to restore a sensible, prudent and transparent securitisation market, needed to increase competition and ensure a stable flow of mortgage finance.

22.  Paragon is separately working on public-private solutions that would help generate meaningful competition and choice across all sections of the mortgage market.

September 2010

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