1 / 50

Housing Finance in Mexico: Evolution, Strategy and Challenges Ahead

Housing Finance in Mexico: Evolution, Strategy and Challenges Ahead. Housing Finance in Emerging Markets Seminar World Bank, March 2006. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Mortgage Backed Securities Challenges in Housing Finance. Contents.

connley
Download Presentation

Housing Finance in Mexico: Evolution, Strategy and Challenges Ahead

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. Housing Finance in Mexico:Evolution, Strategy and Challenges Ahead Housing Finance in Emerging Markets SeminarWorld Bank, March 2006

  2. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Mortgage Backed Securities Challenges in Housing Finance Contents

  3. Mexico key figures & facts • Population of 103 million, forming 26.1 million households. • Population growth rate of 1.9%, and life expectancy of 75.3 years. • 76% of households are in urban and semi-urban areas. • Per capita GNI (PPP methodology) of USD $9,590 in 2004. • 46% of households in the informal sector.*/ • Approximately 20% of population holds a checking or savings account. • Mortgage Portfolio / GDP of 11.1% in 2004 • */ Informal household defined as that in which no single member is a wage earner in a firm that contributes to social security systems.

  4. Demographics show the largest number of household formation over the next seven years According to official estimates, 672,018 new households were formed during 2005 throughout the country. This figure will rise up until 2012, when 691,242 new households will be formed. Household Formation 2004-2020 Population by Age Groups in 2004 Source: Conapo Source: Conapo

  5. Over the next 25 years, the number of households will grow at an annual rate of 2%. According to the official projections, from the year 2000 to 2030 the number of households in Mexico will grow 83%. These favorable population dynamics is coupled with annual per capita income of approximately USD $8,000 Number of Households in Mexico 42.2 Million Households Source:CONAPO

  6. Even under conservative assumptions, Mortgage Portfolio/GDP will grow from 11.1% to 27.7% of GDP over the next 15 years These growth comes from the population dynamics shown above coupled with a moderate scenario of disposable income growth for Mexican families. Mortgage Portfolio / GDP of Selected Countries Source: IMF, World Economic Outlook September 2004, Central Bank of South Africa, CMHC (Canada), SSKI (India), Komoco (Korea), GHB (Thailand), China On-Line, SHF (México), Michael Lea. Figures for Korea, Thailand, Brazil, Poland, China, India and South Africa correspond to 2001.

  7. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Mortgage Backed Securities Challenges in Housing Finance Contents

  8. The pace of growth of the mortgage industry has translated into a housing boom over the last five years. Number of Mortgage Loans Originated per year Source:CONAFOVI

  9. The industry is still dominated by the two Federal Housing Funds, INFONAVIT and FOVISSSTE. Number of Mortgage Loans Originated in 1995 Source:CONAFOVI

  10. But the market share of private intermediaries –banks and sofoles– is growing at a fast pace. Yearly Rate of Growth of Mortgage Loans Originated by the Federal Housing Funds and the Private Intermediaries Source:CONAFOVI

  11. INFONAVIT • The board of directors is represented by workers, employers and the Federal Government. • INFONAVIT receives on a monthly basis, 5% of the formal private sector workers payroll, and credits to personal accounts. • INFONAVIT loans, interest rates and payments are indexed to the minimum wage (MW). • INFONAVIT interest rates are not market rates, there is an implicit interest rate subsidy on all its lending. • INFONAVIT relies on payroll deduction for its collections when borrowers are employed by firms in the private sector. Collection mechanisms for unemployed borrowers or those migrating to the public or the informal sectors still need to improve. • Average dollar amount of their loans: $22,000

  12. Similar objective and sources of funding than INFONAVIT, FOVISSSTE is a wage-based housing fund for federal employees, and is the institution in charge of providing housing financing to over two million of federal government employees. The board of directors is represented by different government agencies and by ISSSTE (the public pension fund for federal employees). FOVISSSTE receives on a monthly basis, 5% of the federal employees payroll, and also collects through a pay-roll deduction mechanism. FOVISSSTE loans, like those of INFONAVIT, are indexed to the minimum wage and pay lower than market interest rates; however to a greater extent. FOVISSSTE lags behind INFONAVIT on revamping its operating procedures, particularly regarding the servicing of the loan portfolio. FOVISSSTE

  13. SOFOLES • Sofoles were created in 1994 as a result of NAFTA. They are Non-bank banks similar to mortgage banks in US. • They have two basic characteristics : • Cannot take deposits from the public. • Can only lend to a specific sector: housing, automobiles, education, etc. • Since then, Sofoles have successfully been originating and servicing loans under FOVI & SHF programs: • Delinquency rates below 2.5%. • Relatively homogeneous originating and servicing standards, as well as standardized loan product. • Sofoles will originate approximately USD 5,700 million of loans in 2006.

  14. FOVI, which was run out of the Central Bank until the creation of SHF, started funding SOFOLES in 1995. Collections on outstanding portfolio. Construction loans for homebuilders and mortgage loans for individuals Central Bank Loans (Guaranteed by the Federal Government) SOFOLES World Bank and IADB

  15. SHF started operations in 2002, overtaking the activities of FOVI and has the capacity to fund in the markets Construction loans for homebuilders and mortgage loans for individuals Collections on outstanding portfolio Central Bank Loans SOFOLES World Bank and IADB Debt Markets Banks

  16. Overview of SHF’s mandate and activities • SHF was created in 2001 as a government financial institution with the mandate to foster the development of primary & secondary mortgage markets. • Has “full faith & credit” of federal government on risks taken through 2013 and must be self-supporting afterwards. SHF prices its products at market and has an intermediate ROE goal of 10% in real terms. • Today acts as wholesale mortgage bank & guarantor. • SHF provides long term funding to financial intermediaries and hedges the inherent interest rate risk. SHF cannot lend directly to the public. • SHF offers mortgage insurance, timely payment guarantees on bonds and a cover against nominal minimum wage (to allow homeowners to have payments linked to minimum wage inflation).

  17. SHF and its role • SHF’s main challenge is to develop an efficient market for mortgage-backed securities (MBS) through its role as guarantor and liquidity provider, acting as well as the main catalyst for the standardization of loan documentation and origination & servicing practices. SPV L O A N S MBS Mortgage Portfolios Capital Markets $ • Financial Intermediaries • Banks • SOFOLES MBS $ K Financial Guaranty Insurance Mortgage Insurance

  18. SHF: Financial Highlights (December 2005)

  19. Banks • Until 1994, banks were the only private intermediaries doing mortgages in Mexico. • In 1995, the “Tequila Crisis” bankrupted the Mexican banking system and private banks abandoned the mortgage market. Past-due loans became rampant, specially in the mortgage portfolio of banks. Banks did not have efficient collection mechanisms or foreclosure procedures. • By 2004 it became clear to banks they had been out of a profitable market, and they entered back aggressively by: • Undercutting Sofoles in price • Buying up the largest Sofoles

  20. Banks and Sofoles owned by them originated more loans than independent Sofoles for the first time in 2005. Number of Mortgage Loans Originated per year by Sofoles and Banks Source: SHF and CONAFOVI

  21. Despite the growth of the mortgage market, almost half of the population is still not served by the existing mechanisms. 11.80% Market Segmentation by Income and Labor Condition (Percent of households living in urban areas) Monthly Income $USD Underserved market segment Infonavit & Fovissste Sofoles & Banks

  22. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Mortgage Backed Securities Challenges in Housing Finance Contents

  23. Loan Indexed to the Minimum Wage 12,000 600,000 11,000 500,000 10,000 400,000 9,000 $Pesos $Pesos 8,000 300,000 7,000 200,000 6,000 100,000 5,000 4,000 - 1 21 41 61 81 101 121 141 161 181 201 221 241 261 281 months Monthly Payment Outstanding Balance The bulk of the mortgages originated in the last few years are indexed in some way or the other to the Minimum Wage. • Minimum wages are set once a year during January. • INFONAVIT and FOVISSSTE originate loans denominated in Minimum Wages, so monthly payments and the outstanding balance are updated every year according to the increase decreed on the Minimum Wage. • These loans are characterized by a negative amortization profile and increasing monthly payments, as shown in the figure. • Sofoles originate most of their loans (90% up until 2004 and 70% nowadays) with the balance indexed to inflation, but with monthly payments indexed to the Minimum Wage, causing a similar negatively amortizing profile.

  24. Sofoles may offer inflation indexed (UDI-denominated) loans with payments indexed to the M.W. due to a swap SHF offers. • This product was designed during the years of high and volatile inflation and interest rates. It protects consumers from negative macro shocks, and at the same time makes it possible to fund in the markets since it is UDI-denominated. UDIS UDIS UDIS Debt and Derivatives Markets SOFOLES Borrower Minimum Wages Minimum Wages UDIS Minimum Wage – UDI Swap

  25. Financial Conditions of Mortgage Loans A) For an individual w/ Monthly income of 980 USD. B) For an individual w/ Monthly income of 2,100 USD. * For an individual w/ 35 years old

  26. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Securitization Challenges in Housing Finance Contents

  27. Housing finance has benefited from a host of reforms that took place over the last decade. • Stabilization programs based on prudent fiscal and monetary policies made inflation and interest rates decrease sharply over the last 10 years. • Social security reform introducing defined contribution plans based on personal accounts managed by private pension funds, fostered long term savings as well as demand for long term & long duration securities. • The creation of a long-term yield curve for government securities enabled the pricing of fixed-rate mortgage products. • The reform of sate-level civil codes enabled the sale and purchase of mortgage portfolios without over-burdensome requisites. • Reforms of federal laws that enabled a more efficient recovery of guarantees.

  28. Inflation reduction and the development of a yield curve for peso securities have been instrumental to housing finance. Inflation and Interest Rates on Government Securities(Year-End)

  29. The origin of growth in housing finance over the last few years differs from one program to the other. • INFONAVIT • Concentrated on financing the acquisition of homes, abandoned construction finance. • The allocation of loans among the Fund’s beneficiaries was made transparent, so individuals know the criteria they should meet to get a mortgage, and homebuilders know approximately how many people will get a loan in each state. • Loan origination mechanisms were greatly improved. • Cash inflow was significantly increased through the improvement of collection mechanisms of both the payroll tax and the loans outstanding.

  30. The origin of growth in housing finance over the last few years differs from one program to the other (continued…) • SOFOLES • Sofoles built a platform over the last ten years that allows them to originate and service mortgage loans in an efficient manner. • Long-term matched funding has been made available through SHF programs, allowing Sofoles to concentrate on their lending activities without any exposure to interest rate and prepayment risks. • Purchasing power of individuals has strongly improved as interest rates have come down, thus increasing the demand for mortgages. • New programs where individuals may buy a home with a loan from a Sofol that is complemented by a loan from Infonavit (which will be paid out of future payroll taxes) has allowed Sofoles to go down-market.

  31. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Securitization Challenges in Housing Finance Contents

  32. Annual growth of a Mortgages Portfolio of Banks and Sofoles vs. Banks and Institutional Investors Saving Banks / Mortgages Portfolio Saving Institutional Investors / Mortgages Portfolio Securitization is a must given the savings structure of the Mexican economy Annual savings, that flow through the banks is not sufficient to finance the growth of the mortgage market, on the other hand, the resources, of institutional investors would be more than enough. Source: SHF Estimations

  33. Benefits of Securitization • The benefits of developing an MBS market in Mexico must be measured against the ultimate goal of securitization: Lower mortgage rates & Affordability

  34. Securitization should help to enhance affordability • Securitization of mortgages spurs investment into modeling and pricing of risks by investors, mortgage insurance companies, financial guarantee insurance companies, structuring agents, rating agencies, etc. • Better pricing of risks means that investors will be better positioned to buy mortgages that: • Are higher LTVs (lower downpayments) • Have lower FICO scores. • Lack all the standard documentation. Affordability

  35. Challenges for the development of an MBS market • Ability to issue (local scale) AAA rated securities without being fully supported by Federal Government guarantees. • Properly allocating market and prepayment risk among participants. • Building confidence among investors, particularly institutional investors. • Developing entities or “conduits” that specialize in the acquisition of loans, issuance of MBS and investing on the “equity pieces” of the structures. • Ensure the continuity of the business model by fostering liquidity all along the credit cycle.

  36. 1. Issuing (local scale) AAA rated securities • Financial intermediaries that originate and service to a high-enough standard so that delinquencies are kept low enough to make securitization feasible. • Credit enhancement mechanisms that can support the AAA rating and keep the incentives of the different participants aligned. • Building databases good enough to model frequency of default and severity of loss, to the satisfaction of investors and rating agencies. • A legal system that supports foreclosure on delinquent loans, the issuance of securities from an SPV, and a tax code that avoids double taxation of profits when an SPV exists.

  37. 1. Issuing (local scale) AAA rated securities (continued…) • Mortgage insurance is viewed by SHF as the best-suited credit enhancement mechanism (of those provided by third parties) to promote a sound mortgage market and the development of securitization in Mexico. • There are at least three options to choose from to foster the development of a mortgage securitization market: • Mortgage Insurance (MI) • Financial Guarantee Insurance (FGI) • Investors in “mezzanine” and subordinated pieces of MBS.

  38. 1. Issuing (local scale) AAA rated securities (continued…) How does MI compare with other mechanisms to foster the development of mortgage markets?

  39. SHF is betting on building a MI industry as the backbone of the Mexican mortgage market. A lot of effort has been devoted to entice private MI companies to participate in the Mexican market. Mortgage Insurance should be complemented with the development of Financial Guarantee Insurance (FGI), a market for Mezzanine Bonds and other forms of credit enhancement. Sustainable asset quality is a necessary condition for market development, and MI can help maintain the quality of the underlying portfolios. 1. Issuing (local scale) AAA rated securities (continued…)

  40. Interest rate and prepayment risks must be borne by: Consumers: Through Adjustable Rate Mortgages (ARMs) and / or agreeing to large prepayment fees; or Intermediaries / SPVs: Issuing floating rate notes to finance prepayable fixed-rate mortgages; or Investors: Acquiring pass-through MBS. In most emerging countries, shedding market risk onto consumers by selling ARMs is dangerous given that market volatility can very easily translate into high delinquency rates. SHF thinks that in the case of Mexico, investors are the best-suited participants to undertake market and prepayment risks, and will insist on pass-through structures. 2. Properly allocating market and prepayment risk

  41. The issuance of pass-through MBS should foster research to accurately price prepayment risk. This will also foster the development of mortgage products that include prepayment fees in exchange for a lower rate. 2. Properly allocating market and prepayment risk (continued…)

  42. Provide information –both at origination and over the life of the MBS– to facilitate pricing by investors. Information includes frequency of default, severity of loss and prepayment related issues. Standardize loan documentation, MBS documentation, MBS characteristics. MI and FGI are elements that can be used to facilitate such standardization. Agreeing on pricing conventions is also necessary. Issue regularly and in issues that are as large as possible. Foster liquidity of MBS supported by the items mentioned above. 3. Building confidence among investors

  43. These entities are the key to transform loan portfolios into MBS. Conduits specialize at managing the market risk between time of origination and time of issuance. Conduits are also necessary to keep incentives aligned. The combination of MI and a Conduit that owns the “equity piece” of the structure is enough to continuously monitor the behavior of the loan portfolio and the quality of the portfolio servicer. Surprisingly for SHF, the development of Conduits has been as difficult as the development of an MI program or the development of the MBS structure. 4. Development of “Conduits”

  44. All in all, MBS must deliver lower cost of funds for mortgages relative to on-balance sheet financing. This means that all the process is transparent enough and credible enough to everyone involved (MI, FGI, Conduits, investors, rating agencies). It is important for mortgage markets to have mechanisms in place to ensure liquidity of the market at every stage of the credit cycle. This is a role that has been played in the US by Fannie Mae and Freddie Mac in the past three decades that is rarely mentioned. 5. Ensure the continuity of the business model throughout the credit cycle

  45. Trusts (SPV’s) The Model Debt Capital Markets Financial Guarantee Insurance Companies Market Makers Intermediaries Originators Derivatives Servicing MBS Investors Capital at Risk K Universal Type FIEH • Contrary to what has been said, SHF will not mimic the activities of Fannie Mae or Freddie Mac. • The aim, however, is the same: to bring liquidity to the mortgage markets to foster home affordability and ownership. Mortgage Insurance Companies

  46. Trusts (SPV’s) The Model (cont..) Debt Capital Markets Financial Guarantee Insurance Companies Market Makers Intermediaries Originators Derivatives Servicing MBS Investors Capital at Risk K Universal Type FIEH • SHF will offer up to 35% MI, partial FGI, and act as market maker on MBS. • SHF will not buy mortgages. • SHF will not structure the MBS. • SHF will not offer 100% FGI. Mortgage Insurance Companies • With securitization investors undertake market and prepayment risk, while credit risk is now shared by MI, investors in equity pieces, FGI, and investors.

  47. The development of an MBS market in Mexico • Mexico needs to develop an efficient and deep secondary mortgage market to meet the potential demand for mortgages over the next years. • The first securitization took place in December 2004. Since then, nine transactions sponsored by Sofoles have gone to market for a total of approximately USD 575 million. • This year we expect the issuance of approximately USD 925 million in MBS sponsored by Sofoles. • To remain competitive relative to banks, Sofoles will need to focus on originating to the standards required of MBS structures.

  48. Introduction Funding Models Mortgage Products Explaining Housing Finance Recent Growth Securitization Challenges in Housing Finance Contents

  49. Challenges Ahead • Increase the importance of banks and Sofoles in housing finance relative to the Federal Housing Funds. • Keep the growth of banks’ and Sofoles’ portfolios while maintaining the credit quality of these. • Develop an efficient and deep secondary mortgage market to meet the potential demand for mortgages over the next years, and to keep Sofoles competitive relative to banks. • Translate all these advances in housing finance into affordability for the consumer (lower interest rates, higher LTVs, lower monthly payments). • Devise a housing solution based on public-private partnerships for those households that will not be able to afford a mortgage any time soon.

  50. Housing Finance in Mexico:Evolution, Strategy and Challenges Ahead Housing Finance in Emerging Markets SeminarWorld Bank, March 2006

More Related