The mortgage market in Ghana like many developing economies is a form of Fernand Braudel’s Bell Jar alluded to by De Soto (2000); which makes the market “… a private club, opened only to a privileged few”, referring to the rich in society. Research has shown that about 90% of Ghanaians cannot afford a mortgage to purchase the cheapest developer-built unit. This is largely due to the general low levels of income, high house prices and the high mortgage interest rate regime in Ghana.
High mortgage rates are a function of unfavourable borrowers’ characteristics, unstable macroeconomy and the scarcity of long-term funds in the mortgage market. Hence, from a pricing perspective according to a recent study, all the three determinants of the mortgage rate; the real risk-free rate, inflation premium and the risk premium, are significantly high. Scarcity of long-term capital means the cost of capital, loosely referred to as the real risk-free rate is high. Inflation is high and volatile, which rationally induces investors to prefer short-term investments than long-term investments like mortgage; as a guard against purchasing power losses. Default risk, the probability that borrowers will not be able to pay the principal and interest on a mortgage are substantial; estimated at 95% in 1999 and 11% in 2009 (Gyasi, 2010). Further, the difficulty in converting mortgage loans and collaterals into cash increases liquidity risk, which together with high default risk constitutes the high risk premium regime (about 13% on T-bill rates) for Ghana cedi-denominated mortgages.
The substantial liquidity risk could be attributed to the underdeveloped nature of the capital market and the difficulty with Ghana’s land administration system. Without refinancing mechanisms like a secondary mortgage market, where primary lenders like banks can sell their mortgage loans to enhance their liquidity, borrowers will always have to compensate lenders with a “term” (liquidity) premium for carrying the risk until the maturity of the loan. With a weak land titling and registration system, ownership to property is uncertain; which constrains the basic principle of pledging property as collateral for a loan. This was worsened by hitherto biased mortgage legislation (Mortgage Decree, 1972), which favoured borrowers to the detriment of lenders. The composite ramification manifests in increased length of time in converting collaterals into cash; thus, making mortgage financing very risky, for which reason mortgage rates are commensurately high.
In the absence of an exclusive solution to high mortgage rates in Ghana due to the multi-faceted nature of the problem, efforts to decompose the inherent risk and to deal with each individually are welcome. On this note, Ghana Home Loans Limited’s proposition to securitize their mortgages is a step in the right direction. In this article, I seek to discuss the essence of mortgage securitization in dealing with the scarcity of long-term capital, liquidity risk and how this could effectively reduce mortgage rates; which is necessary to improve affordability and mortgage market participation.
Securitization is the financial practice of pooling various types of contractual debt, such as residential mortgages, commercial mortgages, auto loans, or credit card debt obligations, and selling said securities to various investors. Securities backed by mortgage receivables are called mortgage-backed securities (MBS). The structure of MBS allows the originator, in this case, Ghana Home Loans to sell off the full or part of its mortgage portfolio to a special purpose vehicle (SPV), usually an investment bank which subsequently issues securities on the mortgage receivables to investors with different risk appetites. These securities are then traded on the secondary mortgage market (non-existent in Ghana). The different types include mortgage pay-through securities, mortgage pass-through securities, collateralized mortgage obligations (CMOs) and collateralized debt obligations (CDOs).
Now, how will securitization reduce liquidity risk? By selling its mortgage portfolio to the SPV, the Ghana Home Loans removes liquidity risk from its balance sheet by matching its assets with liabilities. Liquidity risk is then transferred to the secondary mortgage market (SMM); which is reduced or purged by rigorous trading between investors. By the existence of the SMM, mortgages originated could be converted into cash within months compared to holding it for 15-20 years as is the case now. Hence, the SMM would enhance liquidity by reducing the length of time for converting mortgage loans into cash for relending. The expectation is that with an active SMM, demand for MBS should increase which would ensure that the price obtained is not substantial low compared with a forced sale.
Why would securitization increase the supply of long-term mortgage funds? Once mortgage loans are liquid via the SMM, more cash (funds) would be released from Ghana Homes Loans’ balance sheet for immediate relending. The SMM is a market where investments with long-term liabilities and assets trade. Hence, this provides an opportunity for better asset-liability matching depending on the structure of securitization adopted; unlike the current situation where mortgage firms mostly banks finance long-term mortgages with short-term deposits. This creates a maturity gap problem which is funded at a high cost to banks and subsequently transferred to borrowers. However, the Ghana Home Loans is not a deposit-taking financial institution; and thus may not be affected by this problem. Therefore, securitization could increase the Ghana Home Loans’ mortgage originations substantially at a lower reinvestment rate to borrowers benefit.
This is possible because, securitization enables a company even with a BB rating but with AAA–rated mortgage receivables to borrow at the lower AAA rates; because the said receivables are far less risky. In fact, this is the fundamental reason to securitize mortgage loans which can have significant reductions on borrowing costs. Accordingly, Liu, et al., (2009) opine that banks that securitize their assets have lower mortgage interest rates or spreads than depository institutions. This is because the securitization process is touted as a “financial alchemy”; magic resulting from the tranching process. This groups or builds different portfolios called “tranches” with similar risk exposures which are well diversified. Experts assert that, if the transaction is properly structured and the pool performs as expected, the credit risk of all tranches of structured debt improves, less tranches may experience dramatic credit deterioration and loss. The tranching process is therefore everything about securitization, a contributory factor to the global economic crisis and for which reason, the Ghana Home Loans must be circumspect.
In summary, the securitization process is first a risk transfer mechanism for primary lenders via the secondary mortgage market. As a result, new investment opportunities varied by risk appetites are created which suits the investment needs of many investors especially for long-term investors like pension and insurance funds. This would enhance liquidity through competition resulting from the exposure of Ghana Home Loans’ primary mortgage loans to many more investors. Consequently, assets and liabilities could also be better matched which will release more long-term funds for increased mortgage lending at lower mortgage rates.
Notwithstanding these benefits, the feasibility of securitization in any economy may be hindered by many country-specific factors and the type of securitization adopted which are not discussed in this article. It is my hope that extensive dialogue with all stakeholders would reveal the possible bottlenecks and solutions which will point the way forward for mortgage financing in Ghana.