Housing sector in need of modernized mortgage

KARACHI: The housing problem of Pakistan is rapidly assuming acute proportions, with the country facing the highest urbanisation rate in South Asia. Currently, people living in urban areas account for around a third of the country’s population, but the percentage is likely to jump to 50 per cent between 2030 and 2040. The result is a drastic housing shortage that is exacerbating a dearth in the supply of housing units, which now stand at nine to 10 million units while the demand is growing by 500,000 units a year.
Just meeting the incremental demand, mostly emanating from people on low incomes, requires an annual funding of Rs1.5 trillion. Even if the effective demand is assumed to be 20pc of this notional amount and debt-based financing can provide 70pc of this total, we would still require Rs210 billion of annual funding to meet the incremental demand for housing in the country.
As of June 2016, the aggregate gross amount outstanding for mortgage finance (Islamic and conventional across all financial institutions) was Rs66bn. The problem is amplified by the uneven distribution of housing units — there is excess supply for higher and middle income groups and a severe shortage for lower income segments.
A lax enforcement on foreclosure laws, an absence of a clear title, prohibitive stamp duties on property registration and transfer and penal mortgage costs driven by the above-mentioned risks have prevented financial institutions from aggressively entering the mortgage market.
Consequently, the Pakistan Mortgage Refinance Company (PMRC) has been created, with its shareholding inclusive of the Ministry of Finance and some of the country’s largest commercial banks.
Business model: Modelled on the Malaysian housing finance provider, Cagamas, the PMRC aims to supply secured mortgage financing in both conventional and Islamic modes to all banks.
This will enable the PMRC to provide liquidity to banks that originate mortgages. Such funding will be collateralised by bank mortgages as per PMRC’s criteria to ensure quality control over the type of assets created.
PMRC’s funding will also be provided with recourse to banks in case their mortgages are prepaid or become delinquent. In order to maintain the required collateralisation levels, the PMRC will require banks to originate new mortgages to secure its funding.
It is expected that Islamic financing, currently the fastest growing segment of the home finance market, will dominate the PMRC’s asset creation.
Enhancing PMRC’s appeal: The fundamental impediment to an increase in the level of mortgage financing is the issues related to the enforcement of foreclosure laws and the above-mentioned legal challenges.
The availability of sufficient liquidity is only a secondary consideration. It is therefore imperative that the PMRC provides mortgage providers with an opportunity to ‘de-risk’ their business by acquiring their mortgage portfolios without recourse.
While the provision of non-recourse funding by the PMRC is obviously a riskier solution, it provides a more potent antidote to the woes afflicting Pakistan’s housing market. It is best achieved by acquiring the housing finance portfolios originated by banks through the issuance of residential mortgage-backed securities (RMBS) by the PMRC.
Through the acquisition of housing finance portfolios from designated asset originators that may be economically incentivised, the PMRC will effectively function as an asset depository.
These predominantly Sharia-compliant assets may then be sold to potential issuers of sukuk, such as the government of Pakistan, provincial governments and corporates. In the process the PMRC will fulfil one of its critical functions, ie developing Pakistan’s capital markets, while also becoming pivotal to the sustainability of the country’s Islamic finance industry which is currently suffering from a lack of investable assets.
By providing asset availability for prospective sukuk issuers that either do not have unencumbered assets or do not wish to earmark their assets for the tenor of a sukuk issuance, the PMRC will be able to greatly facilitate sukuk origination while also achieving its primary aim of promoting housing finance. In addition, the PMRC would issue its own sukuk to acquire assets and thus provide a constant supply of Sharia-compliant securities through its own and third-party issuance.
Way forward: With the imminent operationalisation of the PMRC, enabling it to originate and then provide asset portfolios to potential third-party issuers of the RMBS will greatly impact its importance.
PMRC’s shareholding and the regulatory support it will receive should also enable it to function in a hospitable legal, regulatory and tax environment. Once operational, the PMRC can opt to offer financing on both a recourse and non-recourse basis, with the latter being structured in the manner described above.