Meanwhile, other nonbanks are eyeing private-source structures for the first time. Even where outright capacity is not yet an issue, smaller lenders are contemplating where the best value is to be found across a wider range of funding options (see box).

The largest Australian nonbanks have long suggested that A$15-20 billion (US$10.1-13.5 billion) might be a reasonable cap on securitisation funding for any single name, purely based on credit limits. To fund growth beyond this marker, lenders are likely to need to explore avenues outside the public sphere.

Market participants tell KangaNews funding dynamics are driving nonbank lenders to cast their nets more widely, though this is not a reflection of the health of the local securitisation market. In fact, Australian dollar issuance is set for another all-time record in 2024 despite fears at the time that 2023 might have represented something of a high water mark (see chart).

Public markets have been extremely constructive for issuers and collateral has held up well. As a result, pricing of nonbank-issued residential mortgage-backed securities (RMBS) has tightened since the start of 2024. La Trobe Financial, for instance, compressed the margin on the top tranches of its RMBS deals by 5 basis points between February and May.

Underlying asset performance has encouraged more investors to deploy money into securitisation pools, market participants say – including many domestic investors increasing their allocations to asset-backed securities (ABS). The volume of offshore money coming into the market is also increasing, intermediaries say.

There is some question over the extent to which demand is being driven by relative value. It is generally acknowledged that Australian securitisation has been appealing to global investors in 2024 on a relative basis, and that as and when these dynamics change the scale of demand may diminish to some extent. But there is also confidence that once offshore investors have taken the time to do their credit work on Australian product, this likely portends longer-term, stickier engagement.

Even so, questions about single-issuer scale remain. Several of Australia’s largest nonbanks are in the region of A$15 billion of issuance outstanding, and issuers speaking at a recent KangaNews-Natixis CIB roundtable reiterated their view that the ceiling remains in effect. “Ultimately, the aim of the game is to find new channels of funding outside the traditional realms,” says Fabrice Guesde, head of global structured credit, Asia Pacific at Natixis CIB in Hong Kong.

“Right now, this stems from a question of capacity. The Australian nonbank sector is possibly reaching a limit, with some players exceeding A$20 billion of assets under management. When we first started banking them, in 2017, their asset holdings were around the A$4 billion mark.”

Source: KangaNews 10 September 2024

The biggest players in the market are churning out around A$4-5 billion of funding each year, and Oscar Austin, Sydney-based head of structured credit syndicate, Asia Pacific at Natixis CIB, says the market has reached “a natural ceiling” on the origination side of around A$15 billion-A$20 billion for each individual program.

The potential for consolidation further heightens the relevance of the capacity issue. Market sources say “one plus one does not equal two” – in other words, merging nonbanks might find their combined funding capacity is less than the total available to the two individual entities. 

Issuers are also seeking to diversify funding sources to manage the risk of becoming over-reliant on public markets that might not always be as conducive as they have been recently.

Nonbanks are seeking to diversify into private markets at a time when private capital is growing in Australia. Reverse-takeovers of names like Kensington Mortgages by Barclays in the UK have reduced the supply of public securitisation issuance in Europe and left some private credit funds that were previously active seeking to invest elsewhere, for instance.   

In addition to large pools of private credit, bankers say insurers and conventional asset managers are also aiming to deploy capital more widely in Australia. Market sources point to subscription ratios of public securitisation mezzanine tranches – which frequently attract bids many multiples of deal size – as evidence of this, including new entrants in this segment.

Intermediaries and investors agree that, despite the advancements in public securitisation capacity, there is opportunity now for alternative sources of funding. Indeed, Pete Robinson, head of investment strategy at Challenger Investment Management in Sydney, argues that it is a question of need not want.

Nonbanks not only have to adjust their funding strategies due to capacity constraints but also to fit in with a changing regulatory landscape in Australia, he says. Around 80 per cent of nonbank issuance outstanding is rated triple-A, Robinson explains – and the bulk of this paper has historically been placed with banks. Liquid asset regulation for banks and the end of the term funding facility are likely to require nonbanks to look further afield to top up their senior notes.

“Triple-A rated securitisations is, at the margin, less efficient for the major banks to hold,” Robinson explains. “The ability of issuers to come to market is going to become more dependent on nonbank triple-A buyers, with the outcome that pricing on these tranches could become increasingly sensitive to market conditions.”

These developments have been playing out for some time and have already had a clear influence on the shape of nonbank funding. An update from the Australian Prudential Regulation Authority in 2015 forced banks to pull back from the public securitisation market and triggered a growing trend of private credit coming into the mezzanine slice of warehouses.

As nonbank issuers have grown, so too has their recognition by third-party investors – in a way that has morphed beyond warehousing and into private placements with offshore private credit funds seeking to deploy more capital than they can place in the public market.

There are also capital benefits to a wider funding mix. A number of listed nonbanks trade at discounts to their book value, while unlisted borrowers can be in an even more challenging position when it comes to access to capital. Whole-loan programmes offer diversification benefits but are also capital-efficient, making tham a way for issuers to grow assets under management.

Issuers are taking note of these benefits. Sharyn Le, global head of securitisation originations at National Australia Bank in Melbourne, notes that some nonbanks are publicly announcing new whole-loan structures. Hummgroup recently entered into a forward-flow agreement with private credit manager MA Financial (see box), for example. Le says this will prompt other issuers to assess how they can fund in similar ways.

However, some market participants worry that certain aspects of private-source funding are not beneficial to the Australasian nonbank sector.

At the KangaNews-Natixis CIB roundtable discussion, some issuers argued that the innate originate-to-distribute model of whole-loan sales, for instance, contradicts a traditional nonbank approach that prizes alignment of interests and bilateral relationships. 

But while not every issuer is convinced, bankers confirm there is a healthy volume of private-source demand for whole-loan structures, adding that the underlying asset class may not matter a great deal.

In other words, there is funding out there if nonbanks wish to grow whatever their asset class. “The private investors we speak to are looking particularly at longer-duration asset classes that are naturally conducive to mortgages,” one banker tells KangaNews. “But there is a huge weight of interested money coming out of Japan and these buyers are interested in autos, too. The Japanese market is very au fait with US and North American autos and could easily apply this expertise to the Australian market.”

Various options are on offer and the type of private-source funding used by any issuer will likely depend its strategy. One method is to sell existing portfolios of loans – which is one way of doing whole loans – and receive fresh cash to maintain growth. Another is to become a specialist provider of loans with a pre-agreed format and credit profile. This is forward-flow.

Guesde believes forward-flow will be the future of whole loans because it involves the largest potential pool of investable capital. Issuers can enjoy certainty of funds and capacity to do more business, he says. Structures can be tailored to issuer and investor preferences, with the focus in the Australian market likely to be pools of loans that otherwise would not suit the standard securitisation market. 

In turn, these will provide the originator with an edge and give scale to an investor that otherwise might be excluded from the market, Austin continues.

Investors will have needs as well. Private credit and insurance mandates are expected to require consistency from issuers over an extended period before they begin investing in a structure. Bankers suggest suitable investors will need to observe a handful of A$100 million transactions, at a minimum, every year before they participate fully.

The important factor for advocates is that whole loans are not solely about selling down assets without any risk or responsibility on the part of the originator. Rather, they are an opportunity to build longer-term partnerships with investors that otherwise would not be able to support a nonbank’s funding programme. Originator and investor have the opportunity to benefit, and with this comes an element of risk-sharing.

Issuers remain concerned about the potential for scalability, given whole loans have not been transacted in meaningful sizes yet in Australia. But bankers and investors say the development of the whole-loan market in other jurisdictions should offer optimism and confidence.

When European markets emerged from the financial crisis, whole loans were a necessary funding tool for issuers. Now, Robinson notes, some nonbanks in the UK are in some cases whole loan issuers who utilise public securitisation opportunistically. At the moment it’s the other way around in Australia.

As with any nascent product, there are also concerns about liquidity on both sides of the equation. The more bespoke a product and the more directly negotiated, the more illiquid it is likely to be for investors. But wearing this risk can earn investors a premium.

Meanwhile, benefits to issuers abound. “Issuers can enjoy certain efficiencies of structures outside the public market,” Robinson adds. “They don’t need to go out to a large pool of investors and parcel out bonds to individuals, for instance. Instead, they can deal with one entity, and there are certainly benefits to that such as speed and certainty of execution, diversification of funding and the potential for introducing new loan types or issuing more concentrated portfolios.”

Peter Hext, head of asset-backed securitisation and financing, Australia and New Zealand at Citi in Sydney, tells KangaNews he expects more nonbank issuers to enter the forward-flow market. One reason is capital constraints and issuers’ desire for off-balance-sheet treatment. Whole loans or forward-flow can sometimes offer a solution here, says Hext, but so can significant risk transfer. For instance, he says credit risk transfer transactions have become popular in other jurisdictions but have not yet become mainstream in Australia.

There is currently more interest in forward-flow and whole-loan transactions with prime assets, and assets where the net interest margin is lower, because they are more capital-intensive. Some higher-yielding assets – including nonconforming mortgages and asset finance – or types of collateral with more net interest margin will generally be retained on an issuer’s balance sheet, Hext explains.

“These are still relatively new structures in the Australian market. In North America and EMEA, billions of dollars of forward-flow and whole loans get executed. I expect volume in the Australian market will also increase because there is a lot of money coming into our market. But it has to be part of a diversified funding plan. Programmatic nonbanks that originate high volume should have various funding alternatives in the toolkit,” Hext says.

Even as whole loans start to gain traction in Australia, there is a view that nonbanks should be open to exploring an even wider range of funding options. For one thing, forward-flow arrangements will not work for every asset class. One source, for instance, argues that whole loan sales, which are non-revolving, are typically better suited to mortgages, because volumes are sizeable and the process is straightforward. Revolving lines can require more management and work to establish pricing.

“Removing a pool of existing loans from a balance sheet is far less impactful than an issuer designing a new lending product, pricing it for risk and illiquidity, and funding it on a forward-flow basis,” Robinson adds.

New Zealand autos lender, Avanti Finance, has opted to fund its bridging finance loans through a private credit fund since 2018 and recently brought the fund in-house, for instance.

Robinson suggests that holdco debt is another funding option for nonbanks. It has historically been used primarily for capital purposes rather than for funding, but it is available as a funding tool.

Unsecured debt is another option but would likely be expensive for many nonbanks. Liberty Financial issues senior-unsecured bonds into the capital market, for example, but in relatively small volume – and it has the advantage of an investment-grade credit rating, which many of its peers would not achieve. 

Ultimately, the expectation is that as a pure volume play Australian nonbanks are always likely to try to maximise the funding they can raise in the securitisation market. There is good news here, as intermediaries say there are still additional options within the public sphere. Japanese investors, for instance, have sought sterling, US dollar and yen tranches, and some issuers have taken full advantage. Resimac visited the sterling market in 2024, for instance, while Firstmac and Liberty have each supplied yen.

Foreign currency issuance has its own challenges for the securitisation format, particularly when it comes to the critical issue of landed cost of funds including cross-currency swap costs. But with new foreign investors seeking non-Australian dollar denominated public securitisation tranches, issuers may be able to take advantage of a further source of demand in foreign currencies especially if the relative value equation changes for Australian dollar product.

The US dollar is the biggest market of all. But there has been little US dollar issuance from Australian nonbanks in recent years because of the volatility in the rates market and the cross-currency swap. Indeed, Pepper Money dropped plans to pursue a US dollar tranche in one of its 2023 deals.

But bankers predict that some issuers could return to the market after the US election in November, should conditions remain conducive. Hext says interest in offshore funding markets, whether in EMEA, Japan or North America, has picked up recently though issuing offshore remains a long-term investment for this cohort of borrowers. For instance, it may take months for a credit to be approved on a platform and the immediate cost saving for the issuer is not always obvious.

Hext notes: “In the current environment where spreads are tight in Australia, issuing in another market is not necessarily going to save issuers money today, particularly when you factor in the cost of a swap, as well as legal and marketing expenses.”