Darling Said to Agree on Guarantees for U.K. Asset-Backed Bonds
Chancellor of the Exchequer Alistair Darling this week will introduce guarantees for mortgage-backed bonds, allowing buyers to unload the securities at no loss, an effort to kick start lending and wean U.K. banks off government aid, two people familiar with the plan said.
The Treasury will offer guarantees for about 50 billion pounds ($73 billion) of the securities through the new mechanism, the people said. Treasury officials hope the backing will help banks now dependent on state support to write loans.
The program is aimed at reviving the $400 billion market for asset-backed securities, which funded a third of the mortgage market before the credit crunch started in 2007. Banks including Merrill Lynch & Co., Deutsche Bank AG and Barclays Capital have cut staff selling the bonds. Alliance & Leicester was the last British bank to sell the bonds in August 2008.
“It’s not clear that this will work,” said Danny Gabay, director of Fathom Financial Consulting and a former Bank of England economist. “It’s the assets that are the problem, not the derivative. Until there is some clarity on how far house prices will fall, it’s difficult to know if these schemes will work.”
Treasury officials expect the initial participation in the program to be limited while banks make use of other simpler and cheaper measures already in place, the people said.
Budget Measures
Darling will give details of the program in his budget speech to Parliament tomorrow, according to the people, who wished not to be identified before the formal announcement. The program builds on measures Prime Minister Gordon Brown’s government unveiled on Jan. 19, the second major package in the U.K. since October to rescue banks and financial markets.
With the economy headed into its worst recession since World War II, house prices are tumbling and banks have curtailed funds for new mortgages. House prices fell 15.7 percent from a year ago in March, Nationwide Building Society said.
Banks approved 38,000 new mortgages in February, less than half the 104,000 monthly average in 2007, according to Bank of England data. Opposition lawmakers have questioned whether the government is right to revive the asset-backed securities market, which was the source of the turmoil in markets.
“This is a failed model and a dangerous model because it helps banks hide behind some very risky decisions,” said Vince Cable, a lawmaker who speaks on finance for the Liberal Democrats. “Mortgage backed securities were the smoking gun of this crisis. The bankers’ finger prints were all over them. It’s not right that the government should revive them.’”
Treasury Guarantees
Under the plan, the Treasury will underwrite so-called put options on new mortgage-backed securities, allowing investors to sell them back to banks for what they paid for them instant faxless payday loans.
The guarantees will sit alongside a broader set of Treasury pledges that underwrite U.K. residential mortgage-backed securities, according to the people.
The Treasury will adopt both guarantees to attract two different types of investor to the market to give the program a greater chance of success, the people said.
The government faces difficulties in creating a new market for the bonds, said Chris Ames, head of asset-backed investment at Schroder Investment Management Ltd. in London.
“It’s a challenge for them to come up with a structure that is attractive to a new investor base, which is the key driver,” Ames said. Adopting both guarantees to attract two different types of investor will give the program a greater chance of success, the people said.
Markets Frozen
Investors have shunned mortgage-backed bonds and other hard-to-value assets after money markets seized up two years ago. Sales of mortgage-backed securities have sunk to zero so far this year from almost 100 billion euros ($130 billion) in the same period in 2007, according to UniCredit SpA.
Investors are demanding as much as 3.1 percentage points over benchmark rates to buy top-rated mortgage-backed bonds, about 30 times as much as before the credit crunch, according to Societe Generale.
The put option guarantee aims to lure credit market investors who normally are willing to take on more risk for a greater return back to the market. The simpler guarantee aims to lure investors who normally deal in ultra-safe U.K. government bonds, known as gilts.
Mortgage-backed securities package home loans into bonds that investors trade. The Treasury earlier this year said it will insure AAA-rated mortgage portfolios.
Other Programs
Banks including Royal Bank of Scotland Group Plc and Lloyds Banking Group Plc probably will keep using the Credit Guarantee Scheme, a program opened in October and extended in January that offers 250 billion pounds in backing for mortgage lending.
The banks probably will keep using the Credit Guarantee Scheme, a program opened in October and extended in January that offers 250 billion pounds in backing for mortgage lending.
For the next few months, because they can borrow more cheaply through that current program, banks are unlikely to tap the new measure Darling will announce this week, the people said. The new plan may not reach the 50 billion-pound level Darling will offer to guarantee.
Since the January rescue program was announced, the government has taken bigger stakes in RBS and Lloyds, extracting promises from them to increase lending by 39 billion pounds this year. The Treasury now is relying on those agreements to bolster funding for mortgages, the people said.