Investors seek higher premiums for risky Aussie mortgage bonds

Sydney

INVESTORS in Australian mortgage bonds are demanding higher premiums to buy the riskiest tranches of new debt, as a slowing economy stokes concerns a property downturn could get worse and increase home loan defaults.

High-yield investors are receiving up to 40 basis points more than they were last year to buy the lower-rated and unrated portions, according to an analysis of recent deals by large lenders including AMP, National Australia Bank and Members Equity Bank.

That marks an important shift from a near decade-long run of relatively stable spreads for the lower- rated residential mortgage backed securities (RMBS), as the previously red-hot property prices have turned sharply lower, particularly in the major Sydney and Melbourne markets.

"When you are looking at those lower unrated tranches, they are deteriorating as one would expect at the late stage of the cycle," said George Boubouras, chief investment officer at Atlas Capital. "We see them as a leading indicator of risk, and they have been getting riskier."

Home prices in Australia's heavily populated eastern states have fallen rapidly since late 2017 due to souring economic conditions, pushing problem home loans to their highest level since the aftermath of the global financial crisis, according to Standard & Poor's.

Jonathan Kearns, head of the Reserve Bank of Australia's (RBA) Financial Stability Department, said on Tuesday that arrears on housing loans are likely to keep rising for a while longer, but should not pose a risk to financial stability as long as unemployment remains low.

Indeed, the still-strong appetite for the safer - and much bigger - portions of mortgage debt suggests a major economic shock is unlikely. The sector has also enjoyed a string of favourable policy moves in recent weeks including an interest rate cut for borrowers, proposed easing of lending rules and the surprise re-election of a conservative government which opposes higher property taxes.

All the same, as economic growth slumped to a decade low last quarter, an unusually long period of slow wages growth has also throttled household incomes and put pressure on borrowers trying to meet mortgage repayments.

The household debt to income ratio is at a record high 190 per cent, according to RBA data.

Investors at the riskier-end of mortgage bond deals, which include higher interest payments, would take the first hit should loans start to default, though an investment grade RMBS tranche in Australia has never been hit by losses.

AMP last week sold A$1.6 million (S$1.5 million) in unrated bonds backed by mortgages, with the pricing of 6.2 per cent representing 40 basis points more than the spread offered to buyers of similar risky bonds last year.

An ME Bank deal this month included A$5.25 million of unrated securities paying a 6 per cent margin over benchmark rates, which is 25 basis points more than what ME Bank paid buyers of similar non-rated bonds in October, the bank said.

The premium is in line with the pricing of several other RMBS deals, including one issued by NAB late last year. REUTERS