Unexpected jump in mortgage arrears could get worse if house prices fall: Fitch Ratings

Declining house prices are the major threat to Australian mortgage performance, according to Fitch Ratings.

The forecast comes as delinquencies in the Australian prime mortgage sector unexpectedly increased partly as new borrowers faced affordability constraints.

“It is too early to judge which factors contributed to the increase in arrears during the December quarter, but to a measurable extent, declining house prices were the only key driver of mortgage performance to show a negative trend,” says James Zanesi, director in Fitch’s structured finance team.

Fitch notes house price stagnation tends to keep 90-plus-day arrears high, as it can lead to longer periods between the initiation of the legal enforcement and the final sale of properties.

Any prolonged period of house price decline might also indirectly lead to an increase in 30- to 59-day arrears with additional financing scarce, leaving the borrower more vulnerable to external events such as unemployment.

The deterioration was forecast to temporarily deteriorate in the March quarter given seasonal Christmas spending, in combination with minor increases in bank standard variable rates.

The Fitch report noted that the housing market deterioration during 2011 – when median house prices fell nationally by 4.8% – had limited the refinance and sale options for borrowers in financial distress.

“When the borrower exhausts the available funds the arrears will materialise, as the loan that might otherwise have been refinanced or repaid will fall into delinquency,” report co-author Natasha Vojvodic notes.

Fitch notes the change comes despite the macro-economic environment including interest rates, consumer spending and unemployment either remaining unchanged or improving during the quarter.

Fitch notes although delinquency rates are increasing and are above the historical Australian average, they remain low relative to other countries and well within the expectations used to derive Fitch’s ratings for Australian RMBS transactions.

Delinquencies in the Australian prime residential mortgage sector increased to 1.57% in the final quarter of 2011, up from 1.52% as new borrowers faced affordability constraints.

The increase in 30-plus-day arrears was mainly driven by a rise in the 30- to 59-day arrears, which is usually associated with a temporary shock in affordability.

Fitch expects 30- to 59-day delinquencies to remain stable in the absence of temporary adverse events such as interest rate rises, excessive spending, significant changes in employment markets or catastrophic events.

But the more susceptible borrowers such as self-employed households still face challenges in meeting their mortgage obligations, which recorded an increase in 30-plus-day arrears to 6.62% in the December quarter up from the 6.26% rate in the September quarter.

“Low-doc loans are experiencing considerable deterioration, as Fitch expected,” Zanesi says.

“The agency continues to believe that low-doc borrowers are likely to take longer than historically to cure their delinquency status.”

This article first appeared on Property Observer.