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Residential Real Estate – Value After the Subprime Crisis

Britt . Gwinner. , CFA. Principal Financial Specialist. International Finance Corporation. Viña. del Mar, 7 May, 2010. 1. Contents. The Basic Picture – housing demand around the world. How was mortgage finance linked to the recent crisis?.

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Residential Real Estate – Value After the Subprime Crisis






Presentation on theme: "Residential Real Estate – Value After the Subprime Crisis"— Presentation transcript:

Slide1

Residential Real Estate – Value After the Subprime Crisis

Britt Gwinner, CFAPrincipal Financial SpecialistInternational Finance CorporationViña del Mar, 7 May, 2010

1Slide2

Contents

The Basic Picture – housing demand around the worldHow was mortgage finance linked to the recent crisis?Going forward

2Slide3

3

The International Finance Corporation

Goal: Improve lives and raise living standards through sustainable private sector development

Member of the World Bank Group, owned by 179 shareholder countries, assets USD 51.4 billion, capital USD 16.1 billion

Global—for more than 50 years has focused on developing countries

Local—full time presence in more than 80 countries and activities in many others

Housing Finance Investment Services:

Loans for mortgage lending; Collateralized mortgage lines of credit; Warehouse lines of credit; Credit enhancement for MBS; Structured finance; Equity investments; Construction finance

Housing Finance Advisory Services:

Policy and regulatory infrastructure, mortgage toolkit and training, capacity building

3Slide4

The basic Picture

Section 14Slide5

Growth and urbanization

World Bank Data Visualizerhttp://devdata.worldbank.org/DataVisualizer/

5Slide6

6

Real estate: a tale of many markets

Real estate:

more than 1/3 of the value of all the underlying physical capital in the world

Developed countries:

mature residential real estate markets

Populations are stable or shrinking – demand for financing from turnover, renovation, aging population, regional growth dynamics

>90% of housing units in developed countries are of adequate quality

Emerging markets:

large pent-up demand for housing

As countries develop, they urbanize

Emerging markets urbanization has been poorly planned - housing and infrastructure inadequate, housing demand is strong

Self-built houses on squatted land lack connections to sewage or water, built of inadequate materials

44.7% of households in Africa, 25.6% in South Asia lack access to improved sanitation

20 to 30 million housing units in Latin America lack a basic amenity such as running water, or are built of substandard materials

Inadequate housing compounds the cycle of poverty – health, social investment, wealth-building

6Slide7

7

Mortgages mostly unavailable in emerging markets

But as real incomes rise, so does capacity to make a mortgage payment

7Slide8

8

Housing

Finance

and

Growth

8

In

emerging

markets

,

housing

finance

is

related

to

new

construction

and as a

result

fixed

investment

, and

generally

with

domestic

inputs,

both

labor and

materials

In

developed

markets

,

housing

finance

is

more

linked

to

trading of

existing

housing

and

economic

cycles

In

the

U.S.,

there

are 7

million

new

loans

each

year

, 6

million

of

which

are

for

existing

housing

In

developed

markets

, real estate and

related

services

count

for

between

2% and 4% of PIB

In

the

U.S., 8 of 10

recessions

since

1949

were

proceded

by

reductions

in

residential

investmentSlide9

9

9

Mortgages and Fixed Investment

In

the

initial

phase

of

development

,

mortgage

finance

can

add

0.5% of

fixed

investment

as a

percent

of GDP

for

each

increment

in

the

size

of

the

market

Source

:

Duebel

(2008)Slide10

10

10

Traditional roles: inflation protection, diversification

Securities backed by inflation-indexed mortgages are natural inflation hedges (Chile, Mexico, Colombia)

Real estate investments can decrease the cost of inflation insurance for long-horizon investors (

Amenc , Martellini, & Ziemann,

Journal of Portfolio Management

, 2009)

IRR of about 11 percent for 60/40 stock/bond portfolio with a varying investment in real estate over time. (Performance of Real Estate Portfolios, Fisher and

Goetzmann

,

Journal of Portfolio Management

, 2005)

International real estate can reduce portfolio risk (Chua,

Journal of Real Estate Portfolio Management,

1999)

A recent comment from Prof. Robert

Shiller

:

“After prices fall, the media begins to publish stories of investor foolishness. Investors, feeling stupid or betrayed, have a “betrayal aversion” that causes them to react intensely and sell in anticipation of future price drops.”

Real estate as an asset classSlide11

11

11

Fixed Income

Residential Mortgage Backed Securities (RMBS)

– True sale to special purpose vehicle (SPV) that issues bonds

Long duration, some uncertainty in principal amortization (prepayments), varying structures, stand-alone credit rating, almost no replacement of assets, no recourse to loan originator

In Peru, AAA local scale RMBS provides 32bp over 3y AAA corporate (when

corporates

are available, it’s a thin market), 202bp over 3y sovereign

Covered bonds

– general obligation bonds with contractual and/or legal backing from a portfolio of mortgages

Long duration, prepayments may be mitigated, credit profile a function of issuer’s balance sheet and security portfolio, assets may be replaced, complete recourse to bond issuer

Yields comparable to AAA

corporates

Investment vehicles for residential real estate (1)Slide12

12

12

Equity

Rental apartment buildings, property developers, land banks, private equity

Residential rental

- works best where laws permit a reasonable balance of tenant and landlord rights and responsibilities

Rental reforms

recently passed in Brazil, considered in Mexico, others have stronger market traditions (Uruguay)

Hybrid

Real Estate Investment Trusts or Funds

– United States, Asia, increasingly in emerging markets – while tax advantages not relevant to most pension fund investors, return may be

Investment vehicles for residential real estate (2)Slide13

What happened with the crisis?

Section 213Slide14

U.S. subprime boom and bust – finance driven, excessive leverage, weak credit underwriting

14Slide15

15

What have mortgage defaults looked like?

15Slide16

16

A largely external crisis

There are no subprime mortgages in emerging markets

Lending generally to high income borrowers, with low LTVs and full documentation

Emerging sovereigns and

corporates

benefitted from low borrowing spreads during the boom

But, macro management has broadly been strong, emerging markets come out of the crisis with relatively low decline in GDP, many cases of growth

At the worst of the crisis, funding retreated to New York, London, Madrid, etc.

Limited development of some capital markets mitigated bad effects –e.g., Egypt, Guatemala

Relatively strong economic performance protected others – China, India, Brazil, Peru

16Slide17

Going forward

Section 317Slide18

18

What haven’t private pension funds invested more in real estate?

Constraints

Macroeconomic volatility – inflation, inconsistent policies, financial crises - Mexico ‘95, Russia ‘98, Argentina ’01

High real rates + volatility make government debt more attractive

Lack of long term fixed-income instruments, lack of secondary market liquidity, yield curves

Investment channeled through personal rather than institutional means

Uruguay rental apartment buildings built & owned by individuals, family firms

Informal markets flourish because of faulty legal and regulatory structures

18Slide19

19

How to boost private pension fund real estate investments?

Lower real rates make private fixed income issues more attractive

Recent history in Chile, Mexico, Brazil, Colombia, Indonesia, India, China, etc.

Promote a range of long term fixed-income instruments, and a range of credit ratings – move away from incentives to pure triple-A markets

Permit securitization, covered bonds, funds, REITs – issuer chooses best execution

Chile as a model – 1980s reforms created AFPs,

letras

hipotecarias

Wider range of pension, insurance benchmarks

Promote secondary bond market liquidity

Benchmark government yield curves – extend maturity, issue to promote liquidity

Strengthen exchanges transparency, efficiency

Improve legal and regulatory structures of real estate markets

More efficient land use planning, title registration, contract enforcement

19Slide20

Thank you

20Slide21

21

Annex - LAC RMBS during the crisis

Reliance on local investors, mostly low mortgage delinquencies, persistent demand from private pensions and insurers

Chile

– Structured issuances up 6 times in 2009 v. 2008, of this, 9% was RMBS

Panama

– La

Hipotecaria

9 RMBS issues through 2008, securitized consumer loans 9/08, rolls commercial paper through 3/09, issues MTNs 4/09 – all to local investors

Peru

– corporate issuances, structured finance for auto, consumer, leasing, and

Titulizadora

Peruana

issues RMBS 02/10, USD 34.5 million, oversubscribed

Mexico

– Severely affected by the crisis, downgrades in RMBS issues by failed lenders, but strong performance by RMBS from major banks,

Infonavit

,

Fovissste

21Slide22

22

Annex - LAC RMBS during the crisis (cont.)

Colombia

USDeq

2.4 billion issued since 2002, trading at average price of 104.6 at end March, 2010

UVR (inflation-adjusted), increasingly nominal fixed-rate peso

Prepayment rates have run 10.5% UVR, 14% peso, defaults < 2%

Structured finance volume 2009 almost twice 2008

TC placed

USDeq

791 million in RMBS 2009, more than half of recent issues purchased by domestic pension funds

22Slide23

Contact Info:W. Britt

Gwinner Principal Financial SpecialistInternational Finance CorporationMiguel Dasso 104, Piso 5

San Isidro, Lima 27, Per

ú

+51 1 611-2573

wgwinner

@

ifc.org

23