Big Mac takes a bite of the mortgage market

Macquarie is driving remarkable growth in its mortgage book as part of its post-GFC strategy. If its growth rates are sustained, it could become a disruptive force in the retail banking market.

The accelerating rate of growth in Macquarie Group’s mortgage lending still appears to be taking some by surprise. It shouldn’t, because this is a strategy long in the making.

The monthly banking statistics issued by the Australian Prudential Regulation Authority yesterday showed Macquarie grew its mortgage lending 44 per cent in the 12 months to May -- about 6.6 times the system’s growth. It is also growing its retail deposit base at about three times the system’s growth rate.

There are a number of reasons why Macquarie is driving growth in its mortgage book; some borne out of necessity and others more opportunistic.

Before the financial crisis, Macquarie was a major behind-the-scenes player in the non-bank mortgage sector, providing funding through its PUMA securitisation vehicle. It played a key role in funding the growth of John Symond’s Aussie Home Loans, for instance.

The GFC killed securitisation, shut down PUMA and saw Commonwealth Bank initially acquire a third of Aussie before moving to a position of outright control in 2012.

It also caused Macquarie to convert that trust into cash management accounts within its bank in order to shelter them with the federal government’s deposit guarantee. Macquarie pioneered cash trusts in this market when, in 1980, its predecessor organisation launched the Hill Samuel Cash Management Trust.

Those cash management accounts give Macquarie access to cheap deposits because Macquarie’s CMA platform is regarded as the platform of choice for a lot of financial advisers because of its functionality and reporting capabilities. Funds are parked in the CMAs, essentially at the cash rate, pending redeployment.

Having a big lump of retail deposits on its balance sheet created an opportunity. There are more than $33 billion at its last balance date, with about $19bn within the CMAs.

The GFC forced Macquarie to change strategy by destroying its listed satellite funds strategy. It began focusing far more intensely on building annuity income streams.

In late 2012 Commonwealth moved from 33 per cent of Aussie to 80 per cent, with an option to move to 100 per cent over time. Almost immediately Macquarie took up a placement in Mark Bouris’ Yellow Brick Road.

Macquarie, which had been rebuilding its retail banking exposure and had been using Aussie to distribute significant volumes of its product, would clearly have been concerned about it falling under Commonwealth’s control.

Bouris, the founder of the Wizard Home Loans business that he sold to GE Capital for more than $400 million pre-crisis, is looking to replicate his earlier success. Macquarie obviously sees YBR as a distribution channel for white-labelled products it manufactures and manages. Macquarie, which has a stake of about 15 per cent in YBR, also owns almost 20 per cent of the listed Homeloans Ltd, as well as marketing its own products directly.

Given that Macquarie has substantial excess capital and the big lump of cheap deposits sitting on its bank balance sheet, mortgage lending is an extremely attractive option for deploying that financial firepower.

When those deposits were sitting within the cash trust, the assets supporting them had to be marked to market. On the bank balance sheet mortgages can be held to maturity. They also attract a low risk-weight for capital adequacy purposes and therefore generate leveraged returns on capital -- well above 30 per cent. And they generate long-tail or annuity-style income streams.

Macquarie crept back in to double-digit returns on equity -- just -- in the year to March. Its return on equity is a critical component of its operating model, given that it drives its employee-incentives structure. Mortgages and the returns they offer are therefore a very attractive asset class for the group.

Macquarie has about $14bn of Australian mortgages on its books (it also has more than $5bn in a North American portfolio that appears to be in run-off mode). But at this point it isn’t exactly challenging the major banks, with their $200bn to $300bn portfolios of loans supported by mortgages. Macquarie has a market share on mortgages of just under 1.4 per cent – but grew that share by about 40 per cent in the past year.

The impact of non-bank pioneers like Aussie and Wizard and Rams in the 1990s and in the lead-up to the GFC, however, does indicate its potential to have a leveraged impact on the wider retail banking market if its current remarkable growth rates can be sustained.

The major banks are certainly watching it because they understand that it has the financial resources to support a much larger presence and the financial motivation within its post-GFC strategy to pursue one.

Last month YBR and Nine Entertainment (which owns nearly 17 per cent of YBR) announced a new five-year strategic marketing alliance that gives Bouris access to Nine’s platforms at discounted rates. YBR has an existing and separate 'contra' arrangement that gives it more than $4m in pre-paid advertising on Nine’s platforms.

That combination of a bank with access to funding at an exceptionally competitive cost, a very visible non-bank and a major media company -- all of them aggressive and creative organisations -- adds to Macquarie and YBR’s potential to be disruptive forces.