Granite Crumbling

It has been reported that Northern Rock has been experiencing severely high default rates raising further fears of a higher bill for taxpayers.

According to financial service company, Standard & Poor’s, Northern Rock borrowers who have fallen more than 90 days behind mortgage payments were rising at faster rates than the rest of the mortgage market, soaring by two thirds between this year's first and second quarters.

In addition, repossession of Northern Rock mortgagees were also rising at a far higher rate from 134 a month in the first quarter to 353 a month in the second.

This problem was identified to have stemmed from in Granite, the £40bn offshore trust that is holding many of Rock’s mortgages. The Granite book is down from £46 billion at the start of the year and it is reported that it was performing much worse than similar bodies set up by other banks such as Barclays, HBOS, Abbey, Alliance & Leicester and Standard life.

Andrew South, S&P's senior director for structured finance, said that any financial difficulty resulting from the defaults would be shared between Granite bondholders and Northern Rock.

“The deteriorating book increases the chances that taxpayers, ultimately, might have to shoulder some of the cost,” he said.

In addition, S&P has also highlighted further potential risk of mortgages in Granite. Average loan-to-value ratios (LTVs) were 77 % for Granite, as against 60 % typically in other trusts. Slightly less than 30 % of Granite loans were at LTVs of 90 per cent or more, meaning that a large proportion of borrowers would be in negative equity if house prices fall further.
Granite's performance on credit quality is poor even after taking into consideration that it was shrinking its book as mortgages matured or borrowers were taking their business elsewhere.

A Northern Rock spokesman stated however: “At this stage Granite is performing within its parameters. Investors are well aware of this and are protected by the reserve fund.” The spokesman said that the arrears figures in Granite were consistent with figures issued by Rock with its half-year results on August 5. At the time, Rock said that arrears levels, including Granite loans, had doubled since the start of the year to 1.18 per cent of the total residential mortgage book. Repossessions were up from 2,215 at the start of the year to 3,710.

At the weekend it was revealed that at the time of the nationalisation, in February, when the Government was assuring voters that Rock could ultimately be sold back to the private sector for a profit, it was being advised by Goldman Sachs that the situation was likely to lead to a loss of between £450 million and £1.28 billion. Since nationalisation, Rock has repaid £9.4 billion of government loans, reducing its outstanding debt to £17.5 billion. Negotiations with the Treasury are underway to swap up to £3 billion of government loans for fresh equity to strengthen its balance sheet.

What is Granite?

— Granite is a vehicle established in 1999 by Northern Rock in Jersey, used by Northern Rock to make extra funds from the mortgages that the bank had sold to homeowners
— Northern Rock transferred mortgages to Granite, which packaged them together. Investors bought these securities, which provided them with regular interest payments
— Rock does not own or run Granite, it is a separate legal entity
— As mentioned in the piece, many other banks have these vehicles, including Halifax, Bank of Scotland and Barclays. They are particularly common in the United States, where almost all mortgages are held within special-purpose vehicles.