- Our Ref.:
- B9/25C
B1/15C
29 October 1999
The Chief Executive
All Authorized Institutions
Dear Sir/Madam,
Refinancing of Residential Mortgage
Loans
The residential mortgage portfolio of authorized institutions
("AIs") has performed extremely well during the difficult
conditions of the last two years. It is important that this
performance is maintained. I write therefore to remind institutions
that prudent lending criteria should not be relaxed and proper
standards of conduct should be upheld amid keen competition for
residential mortgage business.
Active competition for residential mortgage business has been
reflected in the undercutting of mortgage rates and the various
types of marketing incentives offered to home mortgagors. More
recently, there has been an upsurge in the amount and percentage of
new loans for refinancing purposes.
The proportion of refinancing loans, as a percentage of new
loans approved, has increased rapidly in the last six months. At
end-September 1999, the percentage stood at 35.6% compared with the
monthly average of 3.0% for 1998 as a whole1. By contrast, the growth of the total amount
of outstanding loans has recently slowed. Over the last three
months, the total amount of outstanding mortgages has grown by only
1.4% at an annualised rate. This indicates that the active
marketing efforts of banks are tending to increase the amount of
switching of existing mortgages rather than generating new
business.
The Hong Kong Monetary Authority ("HKMA") supports free
competition and is of the view that the strategy for mortgage
business is a commercial decision for AIs. However, AIs should
consider the commercial rationale of their strategy if they are
simply exchanging customers at less favourable terms without
generating new business for the sector as a whole. The HKMA
therefore recommends that AIs should review their own commercial
case for refinancing loans particularly if it is part of
institutions' strategy to actively seek this kind of business. The
HKMA understands that the primary objective of attracting customers
from competitors is to increase market share. However, according to
the statistics we have collected, no single player in the market
has gained significant market share in the past six months. Even if
individual institutions have been successful in increasing market
share slightly, they should critically examine their costs in
achieving this. There is a risk that this is achieved at the
expense of lowering the margin for existing customers in order to
retain them, thus driving down the return from such customers. When
AIs formulate their competitive strategy, they should also take
into account the corresponding strategy adopted by their
competitors and the overall effect on the market. An aggressive
refinancing strategy may simply be self-defeating if competitors
retaliate. This may lead to a "merry-go-round" effect where
existing mortgages circulate around the system with an ever
decreasing return.
Besides commercial considerations, the HKMA has previously
reminded AIs of the importance to adhere to prudent lending
criteria in granting mortgage loans. This is important to ensure
that the relatively low delinquency ratio on mortgage loans is
maintained. In particular, the 70% loan-to-value ratio ("LVR")
guideline should be continue to be observed when refinancing loans
are granted. It is reiterated that the 70% LVR should be applied
against the market value of the property at the time when
refinancing loans are approved. It is important that the current
market value of the property is professionally and objectively
appraised.
The HKMA also understands that one of the competitive measures
taken by AIs is to offer a cash rebate to property agents for
referring business. Where this does not involve a sale and purchase
transaction, it is obviously a measure targetted at the refinancing
market. As noted above, the commercial case for such a practice
should be carefully reviewed. In addition, the HKMA is concerned
that when AIs market their loans, whether or not through property
agents, they should observe proper standards of conduct,
particularly those set out in the Code of Banking Practice ("the
Code"). In this respect, clause 10 of the Code on bank marketing is
of particular relevance. e.g. AIs should ensure that both the costs
and benefits of a refinancing proposal are fairly and reasonably
represented to the customer.
The HKMA will, as part of its ongoing examination of AIs,
determine that :
- the AIs have a properly formulated competition strategy,
especially regarding refinancing loans; and
- the 70% LVR guideline is adhered to, and the valuation of
properties is properly conducted.
Yours Faithfully
(D T R Carse)
Deputy Chief Executive
- c.c.
- Chairman, Hong Kong Association of Banks
Chairman, DTC Association
Secretary for Financial Services
1. Source: HKMA's
monthly survey of residential mortgage loans on 33 authorized
institutions.
