Moody's forecasts payment shock for Australian IO mortgage holders

Moody's Investors Service says that mortgage delinquencies will increase over the next two years.

 

The forecasts suggests a record number of interest-only (IO) mortgages converting to principal and interest (P&I) loans, will continue to the rise.

  

When IO loans convert to P&I, borrowers have to make higher monthly repayments, and this 'payment shock' can lead to mortgage delinquencies and makes IO loans riskier than P&I loans. 

  

Moody's data shows that the 90 days past due delinquency rate for mortgages that have converted to P&I from IO is 0.94%, double that of IO loans that have not yet converted and 0.24 percentage points higher than all securitised mortgages. 

 

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Refinancing interest-only mortgages is also becoming more difficult, which will in itself contribute to an increase in mortgage delinquencies. 

  

Moody's conclusions are contained in its just-released report, "RMBS - Australia Mortgage delinquencies to increase as record number of IO loans to convert to P&I". 

  

Banks in Australia originated a significant volume of IO loans in 2014 and 2015, which means a record number of these loans are scheduled to convert to P&I over 2019 and 2020, when their five-year IO period ends. 

 

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IO loans accounted for more than 40% of all mortgages originated by banks for much of 2014 and 2015, with this figure peaking at 46% in June 2015. 

  

At current mortgage interest rates, monthly repayments on loans that convert to P&I from IO will increase by around 30%, which can lead to delinquencies. 

  

With RMBS, IO loans accounted for around 32% of all loans in such deals on average as of November 2017. However, on an individual deal basis, the share of IO loans ranges from 0% to 50%. 

 

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"Therefore, the degree to which individual deals will be exposed to potential delinquencies as loans convert to P&I from IO will depend on each deals' exposure to IO loans and their IO period maturity profile," the report noted.