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Refinancing of mortgage loans:


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Refinancing of mortgage loans:

An international comparison

by Prof. Dr. Stefan Kofner

Institute for Transformation, Housing and Social Spatial Development

at Hochschule Zittau / Görlitz




1. Introduction

2. Classic Refinancing with the „Pfandbrief“

3. Alternative refinancing by securitization of claims 4. The costly prepayment option


1. Introduction




a refinancing market for long- term credit capital:

prerequisite for financing

real estate investments with outside capital

a special importance of the refinancing market for the property markets and the national economy

a two fundamental

organisational alternatives

`continental-European mortgage bond system („Pfandbriefsystem“)

`anglo-saxon securitization system


Funding alternatives of a retail lender

Primary Mortgage Lenders / Deposit Taking Institutions


Equity Assets


(Collateralized with mortgages)

Mortgage Bonds

Debentures Notes

Retail Deposits


Liquidity Facility

refinancing bonds

•Pension Funds

•Mutual Funds

•Insurance Companies


•Foreign Investors

•Retail investors

Only for Deposit Taking Institutions

Source: Loic Chiquier, World Bank, WBG Workshop Mortgage Finance 2000 MBS through


Asset Sales

SMM Conduit

Whole loan sale



2. Classic refinancing with the „Pfandbrief“


2.1 Functions and importance of German type mortgage banks (Hypothekenbanken)

a specialised banks

a long-term „real loan business“


a state credit: community loan business

a assumption: small loss risk

a Specialist Bank Principle:

`specialisation advantages

`special competence

`strong market position

a refinance of the lendings

`special type of covered

mortgage bond: “Pfandbrief”

`usually fixed rate

`no prepayment option

`largest segment of the German bond market



Outstanding loans of private

Hypothekenbanken in Germany


in Prozent 1970 1980 1990 2000 2003 Kreditbanken 4,67 9,68 13,78 21,16 20,49

Großbanken 0,42 4,26 6,84 12,84 11,56

Regional- und sonstige Kre- ditbanken (einschl. ausländi- sche

4,10 5,28 6,73 8,31 8,93

Privatbankiers 0,14 0,14 0,20

Sparkassenorganisation 31,49 29,53 29,83 32,44 32,82

Landesbanken 8,33 8,56 6,67 7,40 7,25

Sparkassen 23,16 20,96 23,16 25,04 25,57

Bausparkassen 16,66 19,67 12,94 9,17 9,43

Private 10,65 13,22 8,97 6,37 6,69

Öffentliche 6,02 6,45 3,97 2,80 2,74

Genossenschaftsverbund 4,88 9,54 11,09 14,11 14,71

Zentralbanken 0,18 0,50 0,24 0,11 0,07

Kreditgenossenschaften 4,70 9,04 10,85 14,00 14,64

Realkreditinstitute 33,02 23,78 21,88 13,94 13,01 Private Hypothekenbanken 11,98 11,83 13,64

Öffentlich-rechtliche Institute 21,04 11,95 8,25 Kreditinstitute mit Sonder-

aufgaben 0,99 0,54 2,22 3,09 3,21

Versicherungsunternehmen 8,30 7,27 8,27 6,10 6,31 Gesamt 100,00 100,00 100,00 100,00 100,00

Distribution of market shares

in housing finance in Germany

source: Immobilien &

Finanzierung, 55. Jg. (2004), S. 284 f.




Pfandbrief Issuers - overview

Quelle: Verband Deutscher Hypothekenbanken Quelle: Verband Deutscher Hypothekenbanken



VDH member banks


2.2 Hypothekenbanken as brokers between capital supply and capital demand

Advantages for an investor (compared with direct loan):

a no due diligence assessment of the loan

a Pfandbrief: fungible security with established secondary markets

a lot size transformation

a risk transformation: diversified portfolio



2.3 Measures safeguarding

the Pfandbrief creditor


safeguarding measures (1/2)

a „congruent coverage“


interest rate changes

`accordance of the term

structure on the asset and on the liabilities side of the

balance sheet: no term transformation

`if not: appropriate measures (e.g. swap businesses).

a specialist bank principle a „coverage principle“:


a priority of the Pfandbrief creditors’ claims in case of

bankruptcy of the emitter (to be satisfied out of the covering


a Registration of the covering

values into the „cover register“


a Regular examination by a trustee



safeguarding measures (2/2)

a quality of the covering values

`lending value < market value:

sustainable value

`loan to value ratio: 60 per cent of the market value of the pawned property

a higher equity capital requirement for Hypothekenbanken

a circulating limit: liable equity capital times 60


Pfandbrief - solid shelter for investors




collateral values mortgage loans

substitute collateral values (< 10%)

other assets

equity capital Hypotheken- pfandbriefe

Öffentliche Pfandbriefe

other refinancing funds

balance balance


state loans


2.4 Internationalisation of the Pfandbrief

a “Jumbo-Pfandbriefe”

a Answer to the segmentation of the Pfandbrief market

a fixed interest finally due papers

a annual interest payment a emission volume: at least

500 million Euros

a consortium of emitting banks: provides for the liquidity and fungibility of the emission



2.5 Amendment of the mortgage bank law

a expansion of the range of business within and outside Europe a acceptance of derivatives as covering values

a permission to operate additional businesses (e.g.

administration and brokerage of mortgage and state loans, real estate agent activity, valuations and location analyses)


2.6 Opening up of the Pfandbrief market?

a omission of the emission

monopoly of the special banks a Pfandbrief business to be opened

up to every credit institution

which fullfills minimum require- ments and possesses a Bafin


a instruments taken over from the existing mortgage bank legis-

lation include loan to value ratio, trustee principle and regular

covering mass examinations by the Bafin administration

minimum requirements:

a core capital of 25 million Euros a regular emission activity

a suitable instruments for the

control, monitoring and check of the risks incorporated in the

covering masses



2.7 Comparison of the Romanian and the German mortgage bank regulation

Germany Romania

Entered into force 1.1.1900 9.12.1999 Specialist bank

principle yes unclear

Term protected by

law Yes (Pfandbrief) Unclear (obligatiunile ipotecare) Refinancable through

mortgage bonds Mortgage and public sector loans

Mortgage loans

Cover register yes No

Legally anchored preferential right in bankruptcy

yes No

Valuation regulations yes No (relative) lending

limit for funding through mortgage bonds

60 % of

mortgage lending value

60 % of value of portfolio

Absolute lending

limit Basically no (100

% of market value)


Germany Romania

Limit for lending beyond the cover (volume above the relative lending limit)

20 % Unlimited

trustee yes no Substitute collateral yes no

Limit for substitute

collateral 10 % no

Public-sector bond Yes no Special ranking of

cover mortgages No no

Specialist public

supervision Yes no

Art. 22 (4) UCITS

directive fullfilled yes no

Comparison of Mortgage Bank and „Pfandbrief“ laws in Romania with German legislation (24.9.2002) Quelle: Verband Deutscher Hypothekenbanken



3. Alternative refinancing by securitization of claims

a Mortgage backed securities (MBS): covered bonds

which securitize real estate credits

a ability to repay: stream of principal and interest

generated by the underlying assets

a role of banks: no more risk takers, but mere mediators (financial intermediaries) a U.S. mortgage market:

federally promoted

institutes Freddie Mae and Fannie Mae most important emitters of MBS


Asset-Backed Securities (ABS i.w.S.)

Mortgage-Backed Securities (MBS)

Asset-Backed Securities (Non-MBS, ABS i.e.S.)

• car finance

• credit cards

• commercial credit

• leasing rates

• ...

• residential mortgage credits

• commercial mortgage credits



U.S. Securitization Activity, 1987-2001

- 500 1.000 1.500 2.000 2.500


1989 1991 199 3


1997 1999 200 1

US$ billions




European Securitization - 2001

by Country of Collateral










4,2 19,0



1,2 0,0

5,0 10,0 15,0 20,0 25,0 30,0 35,0 40,0 45,0 50,0


Quelle in Anlehnung an: ESF Securitisation-DataReport (Spring 2002)



3.1 The basic structure of the

securitization of claims


The Originators’ perspective

a real estate financing institution, e.g. bank,

insurance, building society a needs favourable credit

rating and widespread

portfolio of homogeneous mortgage credits

a defines a bundle of

mortgage credits for the purpose of outsourcing it from his balance

`capital is liquidized

`risk transfer




Originator Special Purpose



Investor Consortium


Rating-Agency interest/principal

sale of assets

purchase price


claim payment


investment placement

emission emission revenue



quality valuation credit


cash flow investment

basic structure of an MBS-transaction source: Leta Bolli: “Asset Securitization”,

presentation at Seminar Finanzintermediation, Zürich University, summer semester 2002


3.2 The role of the rating agency

a first-class rating indispensable

a agency examines adequacy of the issuing price of the bonds a repayment stream: expected value and statistical deviation a role of credit enhancements



3.3 Costs und treatment in the balance sheet

a The costs of such securiti- zation transactions are not to be neglected.

a non-recurrent costs for the preparation and structuring of the transaction, emission and listing costs

a current costs: for trustees, guarantees, rating agencies, bank consortium


debt capital

equity capital

cash loans

financial and tangible assets,

other assets,


balance originator

debt capital

equity capital

cash loans

financial and tangible assets,

other assets,


balance originator


debt capital

balance SPV

consequences of an MBS-transaction on the balance sheet source: Leta Bolli: “Asset Securitization”, presentation at Seminar Finanzinter-mediation, Zürich University,

summer semester 2002



3.4 The investors’ perspective on MBS

a attractive rate of return

a estimation of the failure risk by rating procedures

a access to a diversified portfolio

a fungibility because of securitization (but

secondary markets still underdeveloped)


3.5 Comparison with the German Pfandbrief system

a two competing refinancing instruments a MBS as supervision arbitrage?



Hypothekenbank as a protective institution

a Pfandbrief emission:

entire credit risk is with the mortgage bank, whole

emitter portfolio of mort- gage credits serves as


a MBS transaction: only specific credit bundle

(repayment stream) serves as collateral for the outstanding bonds


Control and safeguard instruments


a numerous regulatory safeguard instruments


a no regulatory safeguard instruments (law, state supervision)

a investors need to rely upon the rating

a intransparent market for MBS emissions



Pfandbriefe versus MBS


a more flexible and closer to the market requirements,

a appropriate for the securitization of credits which do not fullfill high quality standards,

a complex product, needs explanation

a monitoring-intensive investment


a Superiority of the Pfandbrief as far as the failure risk is concer- ned: high quality standard of the individual covering credit

a smoothly working secondary markets

a homogeneity and transparency of the Pfandbrief system: saves

information costs


4. The costly prepayment option



Different usances


a prepayment of a mortgage loan either excluded or sanctioned a debtors stuck to fixed interest


a usually no prepayment option on the refinancing side


a prepayment option

a used by many debtors when interest rates fall

a prepayment option usually also on the refinancing side

a There is no such thing as a free lunch

`compensation: higher interest rate level on both sides

`increases with higher interest rate volatility

`Are capital markets working efficiently?

`If yes, debtors should be indifferent



Superior efficiency of the German institutions?

Unadjusted price

Adjusted for

interest fee Refinance Credit risk Value of prepayment option

Adjusted price

Denmark 5,10 0,09 3,83 0,06 0,46 0,84 Germany 4,77 0,07 3,99 0,09 0,06 0,70 France 4,93 0,17 3,79 0,13 0,29 0,89 U.K. 4,80 0,07 3,60 0,12 0,01 1,15 Italien 4,68 0,04 3,00 0,19 0,20 1,34 Netherlands 4,39 0,16 3,30 0,08 0,20 0,97 Portugal 3,53 0,06 2,46 0,17 0,00 0,95 Spain 3,44 0,11 2,40 0,12 0,00 1,03

Source: Mercer Oliver Wyman



Unpleasant choice?

Pro prepayment option:

a consumerism

a supposed macro-economic benefits

a increases competition

Against prepayment option:

a monitoring intensive, unfair a high interest rate premiums in

volatile capital markets, e.g.


a difficult calculation of the option prices

a considerable administrative costs Efficient

Efficient solution:solution:

-- letlet bothboth arrangementsarrangements competecompete -- freefree choicechoice of of debtorsdebtors



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