Out-of-cycle rate hikes sink borrowers into deepening debt

Out-of-cycle interest rate hikes are increasing the ­proportion of borrowers falling behind on ­repayments.

Speculation is rife APRA will lower its 10 per cent lending cap on banks’ investment loans.

Breathing space for heavily indebted homeowners is petering out as banks’ out-of-cycle interest rate hikes increase the ­proportion of borrowers falling behind on ­repayments.

While record low official interest rates and rising asset prices have led to historically low bad debt charges for banks, Standard & Poor’s yesterday forecast mortgage arrears among prime borrowers to this year rise to the decade-long average of 1.25 per cent, from 1.15 per cent.

“The majority of underlying loans in the portfolio are variable-rate mortgages, and a rise in interest rates is likely to exacerbate debt serviceability pressures, particularly for borrowers with higher loan-to-value ratios and limited refinancing prospects,” S&P said.

Every 10-basis point increase in variable mortgage rates reduces Australian households’ discretionary “free cash flows” by about $1.4 billion, broker CLSA warned yesterday.

Omkar Joshi, a senior analyst at hedge fund Regal Funds ­Management, said borrowers with interest-only loans could struggle to afford more expensive principal and interest loans or ­refinance as banks tightened lending standards.

“(While I) don’t see a catalyst in the near term to bring down the property market ... there could be a problem down the track when interest-only loans written five years ago come up to be rolled over,” he said. “Borrowers will have to go to principal and interest but may not be able to afford it and can’t refinance to another ­interest-only loan.”

The nation’s regulatory bodies, including the Australian Prudential Regulation Authority and Reserve Bank, are mulling fresh macro-prudential measures to contain heightened risks in the property market.

Speculation is rife APRA will lower its 10 per cent lending cap on banks’ investment loans. It could also introduce new debt ­serviceability caps, increase mortgage serviceability rate buffers to 3 per cent, from 2 per cent, or hike capital requirements.

CLSA analyst Brian Johnson said the banks’ regulatory capital requirements for mortgages were likely to rise as they are forced to take a “more granular approach based on initial loan-to-value ­ratios and differentiating between owner-occupied and investor lending”.

UBS analyst Jonathan Mott this week also warned rising capital requirements and slowing credit growth would take their toll on the banks, but be more than offset by further out-of-cycle interest rate repricing.

NAB and Westpac last week hiked owner-occupier and investor mortgage rates by three to 28 basis points, blaming elevated funding costs and having to comply with APRA’s 10 per cent cap on annual investor lending.

Mr Johnson, however, warned “continued upwards repricing” of home loans could have “profound” effects across the economy and markets. “It ­increases pressure on the already fragile Australian housing ­market. System housing credit growth and hence bank revenue growth slows,” he said, adding it could “ultimately pressure” the ­economy.

S&P yesterday said mortgages in arrears underlying prime residential mortgage-backed securities rose to 1.15 per cent at the end of last year, up from 1.14 per cent in September.

While a small quarterly move, arrears rose 19 per cent year on year and varied across the country as the biggest states of NSW and Victoria — where property prices have soared — performed well and others stumbled. Mortgage arrears in Western Australia climbed 40 per cent in the past year to 2.1 per cent as the end of the mining investment boom spreads to “other parts of the states’ local economies and raised the degree of mortgage stress”.

Queensland and WA have eight of the 10 worst-performing postcodes, led by Alexandria near Mackay where arrears are running at 5.42 per cent.

WA — where Commonwealth Bank has the biggest exposure — has had the nation’s highest arrears rate for seventeen consecutive months. “While the price of bulk commodities has increased significantly during the past year, we do not expect it to translate into materially higher investment or employment in the resources sector,” S&P warned. “This means higher arrears in WA are likely to persist for some time, as the downturn in mining investment continues to take effect.”

In contrast, NSW mortgage ­arrears are just 0.86 per cent following an almost 20 per cent jump in house prices in the past year.

S&P said despite regulators’ concerns Sydney and Melbourne are “overheating”, the risks to RMBS investors from the underlying $134.4bn of home loans suffering actual losses was reduced due to price increases in recent years in major cities and unemployment likely remaining relatively stable.

Rival Moody’s this month also forecast delinquency rates for prime RMBS to “continue to rise moderately” this year. Moody’s said delinquency rates rose for all prime RMBS issuers, including major banks, regional banks, non-banks and other authorised deposit-taking institutions.