Speaking on a panel at the Equity Release Council’s Later Life Lending Summit, Sarah Layden, managing director of equity release at Aviva, said the firm had been in the equity release market since the beginning and funding from insurers was important.
Acknowledging the discussion on whether funding models needed to be changed, Layden said the existing structure had helped grow the market.
She said current funding structures allowed for innovation but did not always reflect the changing needs of customers, particularly those who needed to raise more equity through high-loan-to-value (LTV) borrowing.
Funding to innovate
Aviva’s way around this was to seek funders who had the risk appetite for this lending, and Layden said there did not need to be a “wholesale revolution” to create the future of funding, but there could be more innovation around securitisation.
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She said more features had been introduced to many lifetime mortgages, such as the ability to service interest, but “flexibility comes at a price”, which could mean more expensive funding and a greater cost to the customer.
“We need to balance what customers want to use an equity release mortgage for, and how we actually fund it to enable that,” Layden said, adding that more flexibility meant more expensive funding.
Ben Grainger, partner at EY, said most equity release products were funded by pension insurers, and there was an opportunity to augment this, as there was only a finite supply of pension schemes available.
He said it was time to think about other ways to fund equity release products.
Equity release portfolios are also competing with other assets that insurers can invest in, and funders are not currently seeing the same returns from later life lending products, Grainger added.
“The interest rate for the customer is probably getting up to the highest they’ve been,” Grainger said, but returns were “probably at an all-time low”, and many insurers were realising that the asset was not performing like it used to.
Grainger said: “As a result, the number of insurance companies and demand to fund this asset class is probably at an all-time low. While it is a stable model that’s worked really well for a number of years, it’s quite fragile.”
He said the market should look at different funding sources and consider models similar to the US market, and more securitisations.
Grainger said: “If we can get to a place where we have a mainstream securitisation market for equity release and a wide base of investors, including outside of the UK… in the next 10-15 years, that feels like a stable, tangible model to complement the insurance companies.”
A change in funding could influence interest rates and product stability, too, Grainger added, pointing to the mainstream market, where pricing is not as intrinsically linked to the demands of the underlying funder.
The need for stable investment
Christopher Mayer, CEO of Longbridge Financial, a US-based reverse mortgage lender, spoke of the US market and said that securitisation was good when the market was healthy, but was less reliable during an economic downturn.
Mayer said this was where government-backed lending could be beneficial, because this meant cheap lending was still available when other funders withdrew.
The downside, however, was that the ability to innovate and create attractive products financed through government-backed lending was limited.
Further, US insurers are constrained by capital requirements that restrict them to lower-risk loans, meaning they may not be able to fund products that are beneficial to consumers, Mayer said, adding that there were “admirable qualities about the UK market compared to the US”.
How securitisations can grow the equity release market
Panel chair, Tom Kenny, managing director and senior vice president of global retirement and protection at Lumos Insurance, said securitisations were typically used to finance existing books, not new loans, and such a shift would be a “sign of a thriving, healthy insurance and securitisation market, like the mainstream mortgage market where everyone is using it to fund new mortgages”.
He asked what change was needed to encourage this shift in the funding market.
Layden said securitisation would continue to be a critical part of Aviva’s funding strategy, having closed its largest ever transaction last year, but questioned if Aviva should focus on more regular, smaller securitisations going forward, to diversify its funding.
Grainger predicted that high-value securitisations would become more common over the years as insurance companies worked their way through their back books and stabilised a lower-volume, high-frequency level of transactions.
Mayer said securitisations were good for risk allocation and transparency around cost, but the downside was that as securities were tranched up, different parts of the capital structure would have different things they wanted to accomplish, “and as you start lending to higher LTVs, you broaden the chances of loans getting into trouble, how do you resolve those challenges and conflicts across different parts of the capital structure. That’s one cost of securitisations that the US saw”.
He said, considering the needs of clients, some purposes were expensive within a securitisation structure, but when a loan was owned entirely, it was easier to make it fit for purpose and change it over time.
“I think this is something regulation loses a lot of, by just thinking about it from a risk concentration perspective and allocation of risk,” he added, saying this was an advantage of regulated financial institutions that own entire books.
