Basel III To Change Mortgage Landscape
The mortgage industry has undergone many significant changes as a result of the financial crisis. One of the less known pending changes is about to take its final form and in its current draft Basel III will increase consumer costs and reduce consumers’ choice of mortgage providers.
Basel III requires that a bank must maintain common equity equal to 4.5 percent of risk-based capital and another 2.5 percent as a capital reserve just in case of an emergency. Current standards are as low as 2 percent so this represents a significant increase.
Banks will have to make fundamental changes to maintain an acceptable level of capital and that level of available capital will potentially limit mortgage production and future growth of the product line. Banks are lobbying hard against the new restrictions, which are scheduled to be phased in from 2013 to 2019, claiming they will lead to a reduction in availability of funds for investing and lower profits.
For the past year we have been monitoring the evolution of Basel III and the Federal Reserve’s interpretation. Basel III forces banks to rely more on equity than debt to support their operations. U.S. Banks have pushed the Fed to allow them to more heavily count mortgage servicing rights and the unrealized gains and losses of certain securities toward their capital requirements than allowed by Basel III international rule, but the Fed’s drafted rule closely follows the international rule.
A big surprise in the proposed regulations is that the program is “one-size-fits-all.” Smaller community, Savings and Loans, and Regional banks did not expect these rules to apply to them. Increased capital requirements related to mortgage production could change many community banks’ mortgage strategies going forward, including the size of the operation in relation to the bank’s balance sheet and opportunity cost assessments.
As an article on www.thestreet.com points out, “There are many small community banks that will face a financial bind when attempting to comply with these requirements. … When you look down the list of 7,307 FDIC-insured financial institutions you find 1,366 community and regional banks with assets of more than $500 million. There are 5,941 banks with assets of less than $500 million. Banks with assets of less than $500 million will likely find it extremely difficult to comply with the Basel III rules. Many of these community banks have been trying to raise capital just to get back to within the regulatory guidelines for commercial real estate loans, but they have had difficulties doing so in the current economic environment.”
During an appearance on “Squawk Box” with Arjuna Mahendran, MD and Head of Investment Strategy Asia, HSBC Private Bank said that implementing Basel III would curtail U.S. banks’ profits. “Banks should be given sufficient room to really price and avail their borrowers of sufficient funds. And if you curtail that too much the general economy is the one who is going to suffer because their lending capacity would be severely restricted.” The title for the clip was unequivocal: “Basel III to Hurt U.S. Banks.”
— Cal Haupt, Chief Executive Officer, Southeast Mortgage of Georgia, Inc.
For more on this topic, please see this article by Rob Chrisman, Mortgage News Daily.