The Case for Not Freaking Out About Suncorp's Mortgage Bond

(Bloomberg) -- Australia is no stranger to heated debate about the direction of its housing market. This week, that spread to mortgage debt too.

Suncorp Group Ltd. said on Monday that arrears on one parcel of securities are creeping past the level that triggers a change in how principal repayments are carved up. Investors in the deal’s higher-rated tranches will now get paid first, while those in the riskiest notes will have to wait.

The news spurred a flurry of calls to Commonwealth Bank of Australia’s credit strategists as investors tried to gauge whether recent house price declines had finally triggered broader fallout.

Those analysts -- and others -- say no. Here’s why:

  • The announcement refers to residential mortgage-backed securities originally sold in 2010, most of which have been repaid; about A$120 million ($85 million) from the entire transaction is outstanding, down from A$1 billion
  • Suncorp can buy the notes back once only 10 percent are left; that’s expected to happen this year
  • Suncorp said the arrears relate to a very small group of customers, and across the rest of the bank’s portfolio, the proportion of people behind on their repayments is low
  • “We think it is an isolated case,” Commonwealth Bank says in a credit strategy note Tuesday. “We are cautious of the development but not alarmed.”
  • While property prices are declining across Australia, pushing 90 day arrears on prime loans to a record in December, that record is still only 0.75 percent, according to S&P. The ratings company also says that it’s part of the design of structured finance transactions to switch between pro-rata and sequential repayment of principal, as is happening with the Suncorp bonds
  • The news “won’t materially impact our appetite” for senior RMBS tranches, says Mark Mitchell, Sydney-based Daintree Capital director and portfolio manager of credit
    • “Overall we remain comfortable with the most senior tranches of RMBS deals as long as employment remains strong.”
  • Likewise for Vivek Prabhu, head of fixed income at Perpetual Ltd. in Sydney, who has ramped up investments in top-rated RMBS in his portfolio
    • “Arrears are ticking up in Australia, but they are very low still and it’s not affecting the performance of RMBS securities overall. This, to me, is business as usual.”

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