The onset of the credit crunch was a watershed moment for the financial outsourcing industry. Outsourcers’ business models, which had proven to be so successful in the past, suddenly became obsolete, as the trading of mortgage backed securities and mortgage portfolios ground to a halt. However, the seismic shift which took place in the market didn’t bring about the demise of the financial outsourcing sector; it simply paved the way for the next phase of the industry’s development.
In the decade prior to 2007, the UK mortgage market grew at an unprecedented rate. Gross advances jumped from £77.2 billion in 1997 to £362.7 billion in 2007. This growth was fueled by a rapid expansion in the number of lenders generating mortgage assets which were either securitised or traded in the form of portfolio sales. Wholesale funded mortgage lending sustained the activities of a number of specialist lenders, many of whom elected to use the services of third party administrators not only as a cost effective way to manage their rapidly growing loan portfolios, but also as an efficient way to trade assets.
Trading assets
For lenders, it became a lot easier to trade assets if they were managed by the same third party administrator, because the trade then became purely a paper-based transaction. The assets themselves could remain in-situ and did not have to undergo a a physical transfer from one lender to another. The ownership of the mortgages may have changed, but the day-to-day management of those assets remained the responsibility of the same administrator. ‘Create and trade’ lending had truly come of age.
Specialist servicers such as HML grew rapidly during this period. HML’s total assets under management exceeded £50 billion in 2008 and all of that growth came as a result of new lending and asset trading in the mortgage market.
Closed markets
But what happened next is, as they say, now history. The wholesale money markets suddenly closed down and the generation of new mortgage assets into third party administrators ground to a halt. By 2008 gross advances had fallen from £362 billion to £253 billion and then to £143 billion in 2009 and £136 billion in 2010. The CML’s most recent forecast is predicting negligible growth: £138 billion in 2011 and £150 billion in 2012. There is going to be no sudden return to the halcyon days of 2007.
Unsurprisingly, some in the industry believed that as the specialist lenders shut their doors to new business or withdrew from the UK mortgage market altogether, so the days for financial outsourcers would be numbered.
But actually, nothing could be further from the truth. Contrary to these doom and gloom predictions, the future is looking increasingly bright for third party administrators, with opportunities arising not only from within traditional markets, but also from new and emerging markets.
Post credit crunch
The post credit crunch era has been one in which outsourcers have had to adapt to the new market environment in which they find themselves and, in common with many of their clients, this has meant taking out costs and restructuring their businesses to ensure they are right-sized for the market in which they now operate. That has been a difficult process, which has involved shutting down operations centres and parting ways with long-serving staff. But the process was essential to the future well-being of the businesses and during this phase (which, thankfully, is now drawing to an end) financial outsourcing companies have been able to review and realign the business strategies to ensure they meet the changing needs of their clients.
Future
So what does the future hold for financial outsourcers and where will their future growth come from?
In overview, there are two broad areas of opportunity: existing clients and markets and new emerging markets. Existing markets may sound like a strange ‘opportunity’ when there is little new lending being originated into third party administrators. But, ironically, the depressed housing and mortgage markets have generated a different set of needs. For example, lenders have been cutting costs and reducing headcount at a time when arrears need increasingly careful management. This has not only led to a need for specialist servicing support, but has also resulted in a number of lenders deciding to outsource the management of legacy mortgage portfolios. This has enabled them to free-up valuable resources within their businesses which have then been deployed to other essential core activities.
Arrears and repossessions
Organisations such as HML are also able to help lenders make informed decisions about the most effective way to manage their existing loan books, by providing detailed business intelligence which gives them an insight into mortgage account performance. For example, we’re the only UK organisation to produce a regionally based forecast for repossessions. We have the largest commercially available data pool in the mortgage industry and can provide monthly trends on arrears and repossessions. This helps lenders benchmark their performance against industry averages, improve the accuracy of their provisioning and sensitivity planning and ensure their future strategies are TCF (treating customers fairly) compliant.
IT systems
Lenders are also looking at financial outsourcing as a cost effective way to address other resource issues, such as the management of IT systems. As every bank and building society knows, upgrading legacy IT systems is not only expensive but also time consuming. An increasingly popular option is to use a bureau IT service which enables a lender to manage their own mortgage accounts, using their own staff in their own offices, but using an IT system provided by a financial outsourcer.
This not only reduces the cost of keeping old systems up-to-date, but also means that new products and services can be tested without disrupting existing systems and procedures and it shortens the time it takes to get new products to market. As lenders start, once again, to consider how they are going to grow their businesses profitably in the future, so bureau services are starting to look increasingly attractive.
Regulation
The challenge for outsourcing firms is to identify those factors which are having the most profound effect on their clients businesses and then determine how best to provide services which address those needs. For example, regulation places a continuous financial and management strain on all lenders, who need to ensure their products, services and systems (both operational and technical) are fully compliant and are continuously upgraded and capable of meeting the demands of future regulatory changes. This is an issue which financial outsources can address head-on, by ensuring their services are always ahead of the game from a regulatory perspective.
Existing markets
The list of services that can be marketed to clients in existing markets goes on: during 2011 we have seen the re-emergence of asset trading, with a couple of securitisations taking place once again. This market plays to a core competence of financial outsourcers. The buy-to-let market is also continuing to grow at a healthy pace and outsourcers can help lenders speed-up the process of launching new products and services into this growing sector.
The same principles apply to the provision of insurance services, reviewing interest-only portfolios, handling client complaints and providing standby servicing support. As unglamorous as it may be, the provision of effective standby servicing support is a critically important service for lenders, not only to ensure they continue to meet the requirements of ratings agencies, but also to ensure they have an effective fall-back option in the event of a disaster or emergency.
In summary, therefore, there is plenty that financial outsourcers can offer existing clients in their core mortgage markets, which adds real value to their businesses in difficult trading conditions. Outsourcers are now relevant not just to lenders who wish to create and sell mortgage assets, but also to those lenders who want to improve efficiency, drive down cost, ensure a more consistent service and test new products and services.
New markets
So what new markets are available to financial outsourcers? The answer lies in product sectors in which clients are active but which are not adequately supported by outsourcing services. These include secured and unsecured loans and the savings market.
Secured and unsecured loans have obvious synergies with the mortgage market and many of the same skill sets that apply to administering mortgages can be applied to other loan types. These sectors are particularly attractive to specialist and new lenders, who may not have their own loan processing infrastructures or who may have only limited resources at their disposal. Outsourcing back-office functions is an effective way of controlling costs during the early phase of a new business’s development.
The retail savings market has also become intensely competitive and there is little sign of this competition for consumers’ money easing. Financial institutions therefore have to consider new ways to attract investors and options available to them include extending their product ranges and distribution networks. Again, this places enormous strain on existing infrastructure, systems and staff and outsourcing provides not only a cost effective way for savings institutions to launch new products and services quickly, but also to be able to cope with the more volatile volumes of new business that the savings market can generate.
Ireland
And all of these services, both old and new, can be offered to financial institutions in new geographic areas of operation. The Irish market is an obvious next step, not only because of its geographic proximity, but also because of the specific requirements of Irish financial institutions at the moment. They have to cope with rising arrears and the need to drive down costs; both issues that outsources are ideally placed to be able to address. Beyond Ireland lies the rest of Europe and opportunities undoubtedly exist for financial outsourcers beyond these shores.
Finally, there are also new financial institutions establishing their operations in the UK and financial outsourcing can be an effective way for them to establish a foothold in their target markets.
The future therefore holds plenty of opportunity for the financial outsourcing community. The challenge has been to change and adapt old business models to make them suitable for the future needs of clients. And perhaps one of the most important challenges has been to really understand the many challenges facing financial institutions, be it regulatory change, arrears management, saving inflows or cost reduction. Only by understanding and addressing those key issues, will outsourcers be able to secure their future success.
Source:http://www.mortgagefinancegazette.com/features/the-dawn-of-a-new-era-for-financial-outsourcers/
