Take The Money And Run!

One mortgage lender is bribing borrowers to take their business elsewhere. Will other lenders jump on the bandwagon?

As I'm sure you've heard, there is a major crisis building in the mortgage and property markets.

Indeed, according to figures published earlier this week by the British Bankers' Association, major British banks arranged just 21,118 loans for house purchases in June. In June 2007, this figure was 75,318, so the number of home loans has plunged by more than seven-tenths (72%) in the past twelve months. Crikey!

Death by credit crunch

This incredible collapse in mortgage lending and house purchases has been caused largely by the ongoing credit crunch. Having lost hundreds of billions of dollars on dodgy US `subprime' mortgages, banks around the world are short of capital and reluctant to lend to each other. This has caused inter-bank interest rates to soar, forcing banks to rein in their lending.

Although customers with pristine credit records can still borrow at reasonably attractive rates, the market for non-mainstream mortgages looks very tough. For example, lending to customers with `adverse' (ropey) credit histories has all but dried up. Indeed, one subprime mortgage lender is so desperate to get rid of its customers that it is offering them a bribe to go elsewhere!

Oh dear, edeus

Specialist mortgage lender edeus was established in September 2006, with the goal of becoming a leading player in buy-to-let and self-certification mortgages. edeus had no branches and relied on mortgage brokers and financial advisers to recruit its customers. At first, business boomed: edeus arranged over £1.4 billion of lending in its first year and won awards for its innovation and broker service.

Without a large customer base of savers, edeus raised funds via the wholesale lending markets. It then packaged up its mortgages into high-income bonds which were sold on to investors. This process -- turning loans into bonds -- is known as `securitisation'. Unfortunately, thanks to the massive losses suffered by the buyers of these bonds, the securitisation market is effectively dead and buried.

Hence, along with other subprime lenders, edeus has now fallen on hard times and the firm ceased lending in April. In hindsight, its lending practices were not robust enough to survive even a modest downturn in the housing market. Indeed, some of its loans were extraordinarily risky. For instance, it was willing to lend to would-be landlords with poor credit histories, and required no proof of income from so-called `self-cert' borrowers.

Desperate times call for desperate measures

So, edeus and other lenders like it cannot raise new funds, nor sell on existing mortgages. Thus, it has come up with a novel way of dealing with this problem: giving its customers an incentive to take their business elsewhere. Borrowers who repay their mortgage early or remortgage (move to another lender) will be given a discount of 1% to 8% off the amount owed. In addition, edeus will drop all exit fees and early redemption penalties.

In other words, edeus is desperate to shrink its lending book and is willing to bribe borrowers to jump ship. For example, a borrower with a £200,000 loan could hand over as little as £184,000 in order to clear their debt. Initially, edeus is targeting four hundred buy-to-let and self-cert borrowers, but will cast its net wider if this pilot scheme proves successful.

Then again, edeus is better off giving modest discounts to its customers than selling on these mortgages at a fraction of their face value. Investors now value these mortgage-backed securities (bonds) at a fraction of previous sale prices. In some cases, bond values have plummeted by 90%. Thus, edeus stands to lose less money by offering discounts to departing borrowers than it would by selling on its loans.

This development is yet another sign of the chronic weakness which is undermining the mortgage and property markets. In my view, it is highly likely that other specialist lenders will follow suit by going cap in hand to their customers, rather than to financial firms. Thus, we could see the likes of, say, Paragon, Kensington Mortgages and Deutsche Bank adopting similar tactics. Watch this space...

Make me an offer!

In many cases, subprime mortgage borrowers will be unable to remortgage with another lender. Mortgage lenders have tightened their lending criteria across the board, making it incredibly difficult to obtain an attractive rate of interest without a squeaky-clean credit history and a large deposit. Thus, a large proportion of sub-prime borrowers will be stuck with their existing lender.

On the other hand, there will be customers who have seen their personal finances improve since arranging a subprime mortgage. Indeed, one in five edeus borrowers (20%) has expressed an interest in early repayment. My advice to these borrowers would be to ask for an even bigger discount than they've been offered.

As I've explained, edeus stands to save a fortune by getting rid of its loans instead of selling them on. Thus, borrowers bailing out are in an excellent bargaining position and should push hard for as big a discount as they can grab. Let's see how far your buy-to-let or specialist mortgage lender is willing to go in order to see the back of you...

More: Find table-topping mortgages today! | Why Lenders Are Cutting Their Mortgage Rates | Watch Out For This Mortgage Blunder