Tapping into the huge and under-served housing market is the next challenge for Brazilian banks. How that will be funded is the burning question for bankers.
Brazils mortgage market is tiny. Mortgages represent just 2% of GDP compared to 16% in Chile or 65% in the US. Itaú, which has R$100 billion in outstanding loans, has a piffling R$3b in outstanding mortgage lending. Still, the market may be microscopic today, but its attracting a lot of attention. The success of banks in profiting from consumer lending means they are betting that this market will be the next big thing. A recent change in the law that facilitates repossession in the event of bankruptcy is giving banks more confidence they will recoup properties.
In the past, we were willing to provide lending for real estate only to the letter of the law because there was an opportunity costs from cutting lending in other areas. Now, we view mortgages as having the same attractions as other lending, says Pinho Neto of Unibanco. Bradesco made R$2 billion in real estate loans last year and expects that to jump to R$3 billion this year, according to Cypriano. If we see more demand, we could increase that figure, he says, adding that the markets big enough to accommodate all the banks. Bradesco, which is leading the pack in lending in the private sector banks in this area, is starting to lend at fixed rates for 20 years. You can hardly believe that Brazil has come to this, splitting payments into 240 segments, Cypriano says. The bank is also funding companies that are buying land for building, he adds. He estimates that Basel II, which will allow banks to reduce the risk weighting counted when they lend for mortgages, will have a significant impact in galvanising the market. Setúbal expects Itaú to lend R$1.5 billion this year, increasing its outstanding portfolio by 50%.
Two things are needed to really get the market moving, says Setúbal. The first is further decreases in interest rates. With very long-term lending of 15-20 years, each point drop makes a big difference. When we can offer mortgages in the single digits, then this market will really take off. The second is change in regulations. The old model of the Central Bank compelling banks to reserve savings for directed mortgages is not going to be the future, he thinks. The funding need is much greater than the savings that we can offer. We need market oriented regulations, he says. The equivalent of a Fannie Mae or Freddie Mac will also be needed, he adds.
The other obstacle is access to the kind of long-term funding thats essential to underpin mortgages. For now, Brazilian banks are unable to issue certificates of deposit at long tenors and if they lend in the longer-term, this creates a mismatch in their asset-liability profile which creates risk that they need to be comfortable with, says Pinho Neto. They are weighing up how much risk they are willing to take on their balance sheet from this mismatched asset-liability profile. Unibanco is cautious about this risk: its very easy to get hurt in lending to individuals, notes Pinho Neto.
One way round balance sheet constraints is the development of the securitisation market. Shorter-term receivables are already being very successfully sold in Brazil.
Peter Geraghty, managing director at Dredsner Kleinwort in New York, says demand is outstripping supply in this sector. Originators are finding it easy to sell every piece of paper, he says. That in spite of the 15% withholding tax that issuers absorb and still high interest rates. Originators are scouting the market, looking at securitising a wider range of receivables than just those based on payroll deductions, auto loans and credit card borrowing and more complex multi-asset structures and junior tranches are being more readily accepted by the market. Local structures are already rated, typically AAA or AA, and yields are tumbling fast, he adds.
Brazils domestic securitisation market has been growing fast over last five years, confirms Maria Muller, senior VP, Latin America structured financing, at Moodys in New York. Last year, some $5.5 billion was securitised. Still, even that market is small and most came through credit funds (92%) rather than mortgage-backed funds, she notes. Partly thats because two peculiarities make securitisation hard for large Brazilian banks. Brazilian regulations stipulate that 10% of savings deposits are invested in mortgages, says Muller. As securitisation takes mortgages off balance sheet, they are reluctant to securitise portfolios, she notes.
For now, the mortgage market is mostly carried out through government-directed lending programmes, particularly payroll tax funds. Market based funding has only accounted for a fraction of mortgages, notes John Tonelli, managing director at Bear Stearns. The market is dominated by local players. Still, even here there is change. The move in May by government-owned Caixa Econômica Federal, which is dominant in the mortgage sector with 1 million contracts, to securitise R$2 billion of its extensive mortgage portfolio is a very positive development, Tonelli reasons. Caixa has used capital markets sparingly in the past and theres been a lack of initiatives in the mortgage-backed markets from the governments in Brazil. This is a first major step in building out a mortgage-backed market, says Tonelli. Its likely to come initially through local issuance and this should form the backbone of the mortgage market with smaller deals, placed over a relatively long period time, perhaps in the range of R$300 million per deal.
Other initiatives are helping push the mortgage securitisation market. The creation of association Cibrasec is really the first attempt to systematise the market, says Cypriano. Securitisation will be an important instrument, agrees Pinho Neto. He points out that for now large public sector pension funds are over-invested in real estate because of government directed funding. A change in legislation to enable them to count securitised real estate differently. Its difficult to weigh these instruments in the future. Both will be important and they have to to make up for lack of l-t financing in the country. hedge funds
There are technical problems that further complicate structuring of mortgages in Brazil. You think that the structure of the product relieves capital but to some extent it doesnt, says Lourenço Miranda, VP of risk management at ABN Amro in São Paulo. For now, many banks that act as originator are obliged to keep the junior tranche of the deal in their portfolios partly to show that they believe in the underlying assets, he explains. By holding subordinated tranches, banks do not get the capital relief that comes from securitisation. The industry is not well aware of this, he cautions.
Even so, Miranda sees rapid growth in the mortgage market and says that the banks dedicated unit here to approve mortgages and seeing more and more every day. Although new laws to ease repossession have been passed for now, there are few cases to indicate just how easy it is to evict sitting tenants in practice and auction properties. Although it is getting easier, the process is still expensive. Finally, theres basis risk as securitised instruments have fixed-income assets and floating liabilities. That risk is mitigated through swaps, but the market has not been tested and: If liquidity drops, it would be chaotic.