Deluge of mortgage assets brings opportunities for buyers

The UK is facing a deluge of mortgage assets as companies look to sell off loan books in improved market conditions, but intensifying competition among buyers threatens to price out smaller "challenger" banks.

UK Asset Resolution, the company tasked with disposing the government's holdings in defunct lenders Northern Rock and Bradford & Bingley, last week launched a large asset sale by issuing information memorandums to interested buyers, according to people familiar with the situation.

The sale includes "Granite", the £13bn securitised vehicle set up by Northern Rock, and the potential divestment of its mortgage servicing division.

It comes just days after General Electric, the American multinational conglomerate, put its £7.7bn UK Home Lending platform of residential mortgages up for sale as part of broader plans to retrench from global financial markets.

In the UK, the Co-operative Bank is in the process of securitising a £6.5bn mortgage book called Optimum, with a view to selling off the first tranche imminently.

The wide range of assets on the market has attracted a range of buyers including hedge funds and private equity firms, which have more firepower than some of the smaller players to bid high to secure them.

David Edmonds, corporate finance partner at Deloitte, said a "mountain" of money has been raised by distressed debt and private equity funds over the past 18-24 months, to reach about €100bn of capital. With the ability to borrow and gear up, he estimated that €400bn of cash is "looking for a home" across Europe.

"The combination of pent up demand and the UK economic recovery means sellers are all of a sudden in a great position," Mr Edmonds said.

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A number of smaller banks in particular are in need of assets to boost their balance sheet. Andrew Jenke, head of a portfolio solutions group at KPMG, said: "Challengers, backed by private equity firms, are aggressively looking to expand, so you have a fertile audience. Private equity funds are also looking to build out origination platforms.

"We expect 2015 to be busy in first and second charge mortgages as banks embrace more favourable market conditions to sell."

However, many challengers paradoxically lack the scale to effectively bid for assets, leaving them at risk of missing out, said analysts.

TSB, for instance, was among the final bidders for the last £2.7bn package of mortgages sold by UKAR last year under project Slate, but was beaten by private equity group CarVal Investors as part of a consortium led by JPMorgan.

Interest in Granite is now increasing following the announcement of its sale in the budget. But with a market value of more than £13bn, the newer challenger banks might need to club together in order to effectively bid.

"If you want to sell a small portfolio of, say £500m, then there's a very long list of small banks who would be very interested," said one source. "As soon as you boost the cheque to £1bn, most fall away - it's too big for them."

In some cases, interested buyers - such as hedge funds - might not have the operational capacity to manage a loan portfolio. This could alternatively be outsourced to a specialist within the consortium to manage for a fee.

But one issue with a consortium is the potential for disagreement over which assets are taken by each party, further complicating the sale.

Analysts said competition among buyers coupled with an improvement in the performance of portfolios over the past few years would mean certain assets were likely to be sold at a hefty premium.

UKAR's portfolio, for example, has "cleaned itself up over time", experts said. Remaining customers might still have riskier high loan-to-value mortgages, but many are keeping up with repayments. The number of cases in arrears has fallen by about 70 per cent in its four and a half years of operation.

Mr Edmonds at Deloitte noted that a lot of the distressed assets had already been sold off in the UK, with state-owned banks nearing the end of programmes imposed on them as part of state bailout conditions to make such disposals.

"I think the clean out of the distressed assets has largely happened," he said. "If it was really distressed it has been sold off, or returned to performing status because of the improving macroeconomic environment."

Nonetheless, industry experts believe there will still be a flood of other assets to come to market this year.

One bank chief executive said: "The scale of the deals over the next 12 months will be the biggest we've ever seen," noting that a number of high street banks are looking to sell residential mortgage portfolios and other consumer finance assets.

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