Finding the edge in mortgage and consumer loans

Mortgages have their origins in 12th century England, although these loans only became popular as a means of buying a home in the 19th century¹. Given that long history, it is perhaps surprising that the mortgage and consumer loans sector only opened up to institutional investors following regulatory changes introduced in the aftermath of the global financial crisis. Until then, banks dominated the sector.

“This is a very data-intensive strategy. Extracting all this information modelling it, analysing it and making sense of it is critical.”

In addition to the established legal framework, extensive data also helps provide a forward-looking perspective for this vast and diverse sector, which is valued at US$28.5 trillion across Europe and the US².

“This is a very data-intensive strategy,” says Jerome Henrion, Head of Specialty Finance at M&G Investments. “Extracting all this information modelling it, analysing it and making sense of it is critical.

“We use all these historical data points – and by data we mean getting a lot of information on each of the borrower and the loans and the monthly payments over time and not just on the pool that we acquire. Whenever we acquire loans from an originator, we get all the data history on the broader origination of that originator and that enables us to see how all these loans perform in any economic environment and therefore, predict how they will behave in the future.”

Inflation protection among the advantages

Most mortgages are fixed rate, and a typical mortgagee would pay between 30% and 40% of their net income in repayments. However, nominal wages should rise to offset inflation, meaning that many fixed-rate mortgage holders could be better off as a result and more able to service their debts comfortably.

Mortgage and consumer loans – such as those for cars, mobile phones or university fees – tend to be short-term in nature and secured on collateral such as houses, which are appreciating in value. Mortgages and consumer loans have traditionally provided the stable and resilient cash flows that are ideal for many institutional investors.

European vs US landscape

Investors in European mortgages and consumer loans enjoy several advantages over those that choose to target the US market.

In the US, historically, many loans were sold on immediately after being taken out, so the originator of the loans had little interest in how these loans would perform in the long-term.

Moreover, home buyers in many US states can simply walk away from a mortgage. That is not the case in Europe, where lenders can take legal action to recover what they are owed if the proceeds of a house sale are not enough to cover the entire loan balance.

Mortgagees in the US also tend to be able to repay the entire balance at any time without facing any penalty if interest rates fall below the fixed rate they have taken out, so the loan disappears from the investor’s portfolio.

Accessing the sector

Asset owners can now gain exposure to these loans. M&G acquires hundreds if not thousands of loans in any one transaction. Consequently, these loan pools are highly diversified and provide direct exposure to consumers – an area that most investors are lacking in – while benefiting from the sector’s positive attributes.

¹ Family Money, “The history of mortgages in the UK”, 14 July 2017
² M&G plc, 22 February 2022

The value of investments will fluctuate, which will cause prices to fall as well as rise and investors may not get back the original amount they invested. Past performance is not a guide to future performance. The views expressed in this document should not be taken as a recommendation, advice or forecast.