Market methods for expanding mortgage lending have led the Mortgage Agency into a dead end. Apparently, the Finance Ministry does not support this strategy and has hinted that the market would do just fine without them.

Ilya Stupin

Recently, Alexander Semenyaka, General Director of the Agency for Mortgage Housing Lending (AIZhK), publicly made yet another grand prediction regarding mortgages in Russia. He stated that the various measures to create a market for affordable housing will allow lenders to issue around 4,000 mortgages a day by 2010, when today this figure runs around 100-150. According to AIZhK, this growth will result from a pending package of legislation on housing. Some of the package’s bills will be passed by Duma deputies in the third reading as soon as November.

This means the mortgage market should expand by nearly 15 times in the next six years from the current 20-25 billion rubles to 344 billion. However, these optimistic predictions are not backed up by anything substantial and certainly not by activity at the AIZhK itself. In the seven years of its existence, the agency has refinanced approximately 3.5 billion rubles in mortgages. Of course, it should be added that in the first ten months of this year alone, the amount of mortgages refinanced by the agency increased by 4.5 times. Yet despite such hopeful growth, the agency clearly cannot cope with the task of developing a housing lending system. And many on the federal level are upset.

Why the agency was founded

The idea was simple. As a state organization granted state guarantees, the agency was supposed to work with private banks and encourage them to give mortgages. The agency had two ways of doing this, either by directly giving guarantees to banks or buying mortgage deeds and then pooling them and issuing mortgage obligations on the open market that would be relatively high-yield and low-risk (thanks to the state guarantee). However, the agency was not able to set up this very elegant system. First and foremost, it failed to set up a market system for mortgage refinancing on the national level. For several years, the agency complained that there was no law governing mortgage securities. Yet now that this law was passed a year ago, the agency stubbornly continues to get money to support its operations in an incredibly old-fashioned way, by issuing corporate bonds guaranteed by the state. The volumes of these issues are extremely small to boot. Two issues totaling 2.5 billion rubles are currently in circulation on the market. In the fourth quarter, the agency plans another ridiculously small placement of 2.25 million rubles. The incongruity of these modest amounts and the target of 344 billion in mortgages in a few years is simply shocking.

Half-baked mortgage

Why does the AIKhK seem incapable of setting a mechanism for refinancing mortgage programs into motion? Specialists point to two main problems. The first is legal and has been widely discussed. As always, the law on mortgage securities proved faulty. But this is not the main issue. The second problem is far more important. Observers have long suspected that the AIZhK’s techniques for shaping the mortgage market simply don’t work.

According to Greg Alton, an investment advisor at IFC, the AIZhK is facing a resource deficit primarily because of the non-market character of the mortgage products it is trying to promote. The main reason for its failure, Alton believes, is the emphasis on the secondary market: “In my opinion, the entire system was thought up incorrectly from the start. They focused on setting up a secondary market without first setting up a primary market. And currently, the primary market for mortgage lending is simply underdeveloped [or to put it simply, there are no banks able to give mortgages to consumers—Expert]. So it’s not surprising that no one can build large mortgage portfolios.” The second reason AIZhK is having problems, Alton notes, is that “mortgage terms don’t match the market.” Alton thinks to get a 27-year mortgage at 15% in Russia today is simply impossible.

Other experts believe that the AIZhK’s policies, in particular in regional Russia, did not correspond to the central task of creating a primary market of mortgage lenders. “I think that AIZhK should have established slightly different relationships with primary lenders,” says President of the National Mortgage Company, Yelena Klenikova. She is grateful to the agency for implementing standards for mortgage lending, but notes that the current system rests on exploiting regional administrative resources. Klenikova believes the agency should have focused more on the market and involving commercial lenders in its program. At the moment, a state-funded middleman lies between the AIZhK and regional commercial banks. This middleman takes on part of the risk thanks to state guarantees but could not care less how effective mortgages are for banks and forces banks to participate in mortgage lending programs by applying political pressure.

No money, no guarantees

The agency’s obsession with these kind of schemes eventually came back to haunt it. In October it suddenly requested a loan from Gazprombank. Russia’s fifth largest bank opened a billion-dollar line of credit at 9.2% p.a. Last week, AIZhK went to MDM Bank with a similar request.

This all seems to make no logical sense, as the agency is supposed to finance mortgages, not itself. Now things are just the opposite. Agency representatives have tried to reassure the public that this is merely a temporary measure to keep the agency liquid and there are no plans to implement long-term projects on short-term loans. “We must create a system to attract funds from the market, a system that will correspond to the large amount of refinancing we have planned for the coming years. We need to set up a mechanism that will allow us to attract long funds from conservative investors under terms amenable to these investors. To accomplish this, we must perfect regulation of mortgage securities and permit pension funds and insurance companies to invest in these securities,” the director of AIZhK’s public relations department, Andrei Vishnevsky, told Expert.

But here’s the rub. Apparently, the state is not all that willing to support the agency’s further activity. The government plans to cut the agency’s already small state guarantees in half.

Experts are hardly surprised by the conflict. “It’s easy to explain why the state wants to reduce its guarantees,” recounted one specialist who wished to remain anonymous. “AIZhK continues to give loans, for which there is still no appropriate market-based source. Naturally, the Finance Ministry is wondering how efficiently its guarantees aimed at supporting the future mortgage system are being used.”

These discussions present a grave danger to the AIZhK. If the agency does not succeed in getting additional guarantees, the entire federal mortgage system could fall apart at the seams. The agency will be forced to attract funds under far worse conditions, or in other words market conditions, and it is simply incapable of doing so. Few seem to care much about the agency’s fate. Big Russian and foreign banks are eager to take its place and the current situation is extremely favorable for these potential lenders.

The new leaders

It is quite likely that these banks will enter the mortgage market. Moreover, the prospects for a stronger presence for state and state-related banks on the market look bright. Large banks will have a much easier time attracting money for mortgages, collecting mortgage pools, and issuing attractive securities. This is also in their interest, as mortgage securities make money and are powerful financial instruments when circulating properly.

If something of this sort does happen, AIZhK will have practically no chance at survival. In this context, banks like Vneshtorgbank have far more possibilities to expand the mortgage market. The agency in this situation will either give up its position once and for all or merge with one of the state banks. This would make a lot of sense, as most of Russia’s financial flows already move through state banks.

It should also be noted that there will be no room in the new mortgage system for small and mid-sized commercial banks. Many of these banks were undermined by the June banking crisis. Many banks implementing their own in-house mortgage programs partially cancelled them due to a lack of liquidity. Banks are being forced to search for subordinated or at the very least three- to five-year hard currency loans in the West. Attracting funds has gotten much harder. More likely than not, small banks with limited resources will be forced to yield to the big guys. “Only banks with access to long money will be capable of dynamic growth. I am referring to Russian banks with large amounts of capital that have various sources for financing mortgage programs and diversified risks, as well as foreign banks. We shouldn’t underestimate their market prospects,” Greg Alton of IFC commented.

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