One of the most curious aspects of the Northern Rock debacle is the government’s insistence that the bank’s loan book is fundamentally solid and that market conditions will soon improve. How can they be so very sure?
Yesterday, Alistair Darling continued to say that: “The Financial Services Authority continue to assure me the bank is solvent. It believes that Northern Rock‘s mortgage book is of good quality.” Just now, at the monthly 10 Downing Street press conference, Darling repeated his claim that “these are good assets”.
There is an old cliche in financial markets that you only find out who is wearing no swimming costume when the tide goes out. In the case of Northern Rock, that is the housing market, where prices have teetered slightly in the last few months. If they fall further and faster – as likely a scenario as any other given that banks are now reining in their lending – we may find out whether the assumptions about the Rock mortgage book are realistic or not.
Bear in mind that the group was seizing unprecedented market share just as house prices rushed towards their peak. Furthermore, it specialised in “generous” products including a 130 per cent loan-to-value mortgage which is apparently still on offer.
In the coming months, the nationalised Rock will be expected to run down its mortgage book, probably by upping its interest rates; a move which will encourage customers to shop around for different loans when their current ones expire. Other lenders may be happy to take on some of the Rock’s customers. ie, the more credit-worthy ones. With banks increasingly risk-averse – for obvious reasons – they may not, however, want to take on the Rock’s more questionable borrowers. In other words, the rump of the mortgage book, retained by the government, is likely to contain the more problematic loans.
At today’s presser (it’s still going on as I write) Mr Darling insisted that the Rock’s position would look better “when the housing market comes back”. Most commentators thought that house prices would be on the rise pretty soon, he suggested.
“Every penny is secured against Northern Rock’s assets…We are acquiring its liabilities and also its assets.”
Asked by the FT whether the government still expected to make a “profit” from the deal, Gordon Brown said it was “entirely possible” as the value of the Rock’s mortgage book improved.
Unfortunately for the pair, it’s also easy to envisage a scenario where the housing market does not – as the chancellor puts it – “come back” for several years. If prices fall further, the mortgages in question may look increasingly less attractive.
Last time I spoke to Matthew Oakeshott, the Lib Dem Treasury spokesman, he said he was writing to the Financial Services Authority. (The FSA had just warned that there could be up to 2m high-risk mortgages written in the last year or two).
Lord Oakeshott wanted to know how many of these risky mortgages were provided by Northern Rock. I’d be surprised if the FSA comes back with an answer. But it’s safe to say: a large proportion.