Are you overdue for your Home Loan Health Check?

If it’s been more than 12 months since you first took out your mortgage or since you last reviewed your home loan, then you are overdue for your complimentary Home Loan Health Check.

As most of you will be aware, my service does not end when your loan settles, but extends for the entire life of your loan – and beyond…

In addition to providing you with regular market updates via my newsletters, I also encourage you to review your home loan with me at least once a year.

A Home Loan Health Check takes around 45 minutes and those that currently take advantage of this service find it an ideal opportunity to:
• Find out what product innovations have been recently brought to the market and how you can use them to either save money or streamline your overall banking structure.
• Discuss the implications of possible interest rate rises and some of the strategies you might be able to adopt to counter the effect of those increases.
• Discover ways of reducing your monthly outgoings by re-structuring your loan and converting all or part to interest only (especially popular in a rising interest rate climate).
• Find out how long it will take you to pay off your home loan.
• Help you stay focused on achieving your future financial goals.
• Flag any problems you may be having with your loan or your lender.

So if you have not already done so, please phone or email me today to book your appointment time.

Because these mortgages were lumped together in packages and sold as asset-backed securities all over the world, particularly in Europe. Often the initial securities were themselves put into new packages, leveraged up and resold as so-called collateralized debt obligations (CDOs). They are a sort of derivative play on the underlying mortgages, just as futures and options are a play on stocks and commodities. Big banks have whole securitization departments who create these instruments. They do so to profit from the difference between the long-term returns these investment vehicles produce and their more plain vanilla short-term borrowing, and to earn fees.

Who bought them?

Everyone, and that's the problem. The CDO market has exploded in recent years: More than $100 billion worth of structured cash CDOs were issued in the fourth quarter of last year alone, according to CreditFlux Data+, a London firm that tracks them (and that doesn't include the even more arcane "synthetic" CDOs). Banks, institutional investors and hedge funds have been the main customers, but some retail investors have also bought into them through the asset-backed securities, or ABS, funds that some of the biggest European banks sell to the public. Everyone who bought these securities was given the same pitch, namely that they were a relatively safe bet, since much of the paper had AAA ratings, but offered higher returns than regular corporate bonds.

So what went wrong?

The number of delinquencies in the U.S. subprime mortgage market has been rising and is now substantially larger than anyone expected - about 14 percent of the total, up from about 10 percent in 2004 and 2005. That means there's a strong likelihood that some of the securities holders, especially those where the underlying mortgages were taken out in the past couple of years, are sitting on losses.

Those troubles have been massively compounded by the aggressive use of leverage in CDO packages. When U.S. blue chip financial players like Bear Stearns and then a variety of European banks began reporting problems, panic quickly gripped the markets. That turned into a vicious circle: These debt instruments have now become impossible to price because nobody wants to buy them any longer. And since they can't be priced, the size of the losses aren't clear, which in turn has given rise to more rumors about financial players in trouble. Banks in continental Europe especially simply stopped lending to one another, which is why the liquidity dried up in the credit markets as a whole and the European Central Bank had to jump in.

How big is the problem, really?

Nobody is quite sure. Patrick Artus, an economist at Natixis in Paris, reckons the total damage inflicted by subprime woes is a relatively manageable $45 billion, which is the difference between the expected rate of mortgage delinquencies and the current much higher rate. Another French bank that is an important player in the derivatives market, Sociéte Générale, reckons that even if things really turn sour, the worst will be losses of about $100 billion. That may sound like a lot, but it's the equivalent of about 1 percent of the total market capitalization of the S&P 500.

Such calculations highlight the real issue here, that the panic has been due more to a collapse of confidence than to any financial cataclysm. "We're still primarily looking at a liquidity crisis rather than a credit or a solvency crisis," says Fitch's Rawcliffe.

Is it really over?

No. The market "remains very, very fragile," says a top executive at one of the leading European banks. Some confidence has been restored into the international banking system and its overnight lending patterns by the big injections of central-bank funds, but nobody has yet dared to start buying that subprime paper in any sizeable quantities. And because there's so little transparency about who is sitting on what size losses, the rumors continue to swirl.

Nouriel Roubini, an economics professor at New York University's Stern School of Business, who has long warned about the risk of financial contagion, reckons some other parts of the U.S. housing market including home equity loans and second mortgages are starting to display what he calls the same "toxic characteristics" as the subprime sector. More optimistically, Neil McLeish, the chief European credit strategist at Morgan Stanley, says that, "we have passed the absolute peak of that anxiety and uncertainty." But even he believes that credit market conditions will be more difficult in the coming months and, "there is still some risk of additional volatility" at least for the next month or so.

Who are the biggest casualties?

Banks and financial market players across the world are starting to come clean about their exposure and losses, partly in order to help restore confidence in the market. The losses incurred by Wall Street titans Bear Stearns (Charts, Fortune 500) and Goldman Sachs (Charts, Fortune 500), which this week announced it is putting $2 billion into one of its hedge funds, have received the most publicity. Outside the United States, firms such as insurer AXA (Charts) and BNP Paribas in France have frozen or shut problem funds, while a range of banks including NIBC of the Netherlands and Commerzbank in Germany have detailed their exposure and expected losses.

The biggest international victim to date is a mid-sized German bank called IKB Deutsche Industriebank that its peers, including a government-owned bank, stepped in to rescue earlier this month, taking over $11 billion of credit lines and putting up a $4.7 billion funding package. IKB had been an aggressive player in the CDO market, through two off-balance sheet firms that it used to pump up its commission income and advisory fees. In the end, its exposure to dodgy securities through these two firms far exceeded the bank's liquidity and equity capital.

Is anyone safe?

Not completely, but barring some huge problem nobody yet knows about, major banks seem in the best position to weather this storm because they have the strongest balance sheets and are able to refinance their operations most easily thanks to the extra liquidity that central banks have put into the market in the past week. "Being a bank and having access to the central bank (credit) windows is key at the moment," says the top European banker.

Hedge funds are another story, as the Goldman Sachs-run one that was bailed out this week shows, although some of these funds foresaw the troubles and have been aggressively shorting the subprime sector and any securities relating to it.

Why didn't central banks cut interest rates in response?

Some critics of the European Central Bank, especially in France, are saying that its interest rate policy, which has consisted of regular rate hikes to counteract inflation, has partly fueled this crisis. "One can ask if the ECB isn't becoming a prisoner of its rate-increase strategy," Thierry Breton, the former French finance minister said this week. But bank economists are generally more supportive and say that the ECB acted smartly with its three consecutive days of huge money-market interventions - the biggest of which was a whopping $130 billion injection last Thursday. "It's a demonstration of the financial system operating as it should," said James Nixon, a London-based economist at France's Société Générale, who says that the troubles primarily affect the financial sector rather than the wider economy.

While the Fed did cut rates in 1998 during the last derivatives meltdown, involving Long Term Capital Management, central banks may not need to this time if markets continue to calm down. Indeed, the big question now is whether the ECB and the Bank of Japan will go ahead and raise rates in the next month, as they had signaled before the crisis. Roubini isn't sure, and thinks that the Fed may well move to reduce U.S. rates quite soon. "The likelihood of a cut in rates is now much higher," he says.

What does this mean for the world economy?

So far, not all that much - but keep your fingers crossed. Growth in Europe and Asia remains buoyant, even if the U.S. outlook is unclear. Some borrowing by companies and individuals is bound to get more expensive as markets adjust and restore a risk premium. But "it's not obvious that the repricing will lead to an economic slowdown," says Société Générale's Nixon, although there's a possibility that Britain's economy, which has thrived because of its heavy dependence on financial services, may be vulnerable. Roubini thinks the United States will bear the brunt of what he sees as an inevitable slowdown of consumer spending related to the housing woes, and reckons that this could ultimately spill over to the global economy if it's sufficiently severe. "The effect on the real economy in the rest of the world depends on whether there's a hard landing in the U.S." he says.

Will there be any regulatory fall out?

This is almost inevitable, especially in Europe where it's now clear that many of the purchasers of these securities didn't fully appreciate the risks they were taking. Look for the first moves to come in Germany, where bank bail-outs are exceedingly rare. The last time a bank got into serious trouble there was in 1974, when the Herstatt Bank collapsed after some disastrous forays into foreign-exchange trading that bear some similarity to IKB's woes. Regulators quickly followed up with an overhaul of the national banking system. It's not clear that IKB's rescue will have the same dramatic repercussions, but it's already prompting tough questions about how a mid-sized bank could end up with such an enormous exposure to risky assets via an off-balance-sheet firm.

"I suspect that at the end of this, regulators will ask themselves if this very rapid expansion (of transactions involving asset-backed securities) has been a good thing for banks, or if the risk comes back to haunt you," says Fitch's Rawcliffe. Watch also for credit agencies to come under pressure to do a better job at assessing the market risk of exotic financial instruments. 

ECB supplies markets with $10B more
OPEC says subprime may cut oil demand
UBS warns about market turmoil

So what strategies can you employ if you are paying off a mortgage?

• If you are already under financial pressure as a result of rising petrol prices, then you may want to explore restructuring all or part of your home loan for the next 1-2 years.
• Alternatively, switching to a basic, "no-frills" home loan which offers a discounted rate of interest for the life of the loan, could save you around $50 a month (based on $155,100 loan amount).

As the name suggests, these types of home loans offer only basic product features but they do allow you to make extra payments, pay weekly or fortnightly, and in most cases there are no penalties for early repayment of your loan.

• If your mortgage is above $150,000, then you may qualify for a "professional discount" on your home loan of between 0.3%-0.7% pa. This too could also save you around $50 a month (based on $155,100 loan amount) without having to forego any of the flexibility and features that you currently enjoy.