Lloyds Banking Group Plc is set to offload a significant portion of its UK mortgage portfolio, approximately £1 billion ($1.3 billion), through a risk transfer transaction. This move involves mortgages that have undergone modifications, such as term extensions. While most of these loans are currently performing well, they attract high regulatory capital charges due to previous delinquencies. Additionally, the transaction includes a subset of mortgages that are presently in arrears.
The sale aims to provide Lloyds with credit protection on these home loans, allowing the bank to mitigate potential future losses by transferring some of the risk to investors. The specific terms of the deal, including its size, are still under negotiation with interested parties. A spokesperson for Lloyds declined to provide further comments on the matter.
Risk transfers like this one enable banks to retain their loan assets while reducing their exposure to credit risk. Typically, banks seek protection for up to 15% of their loan portfolios, offering investors attractive yields that often exceed 10%. This strategy not only helps in managing risk but also frees up capital that would otherwise be tied up in insuring the loans.
Lloyds is not alone in utilizing this financial instrument. Banco Santander SA is also in the process of selling a similar risk transfer linked to a portfolio of UK home loans, among at least twelve other deals currently underway. These transactions are part of a broader trend, with loans tied to significant risk transfers reaching around $1 trillion. According to data from Chorus Capital Management, such deals have been occurring at a record pace for the fourth consecutive year.
The importance of these transactions is underscored by Lloyds’ financial metrics. As of the end of the third quarter, the bank’s core equity tier 1 ratio stood at 14.3%, a slight decrease from 14.6% the previous year. By utilizing risk transfers, Lloyds aims to enhance its solvency position and maintain regulatory compliance while continuing to support its mortgage lending activities.
Overall, Lloyds Banking Group’s decision to engage in this substantial risk transfer highlights the evolving strategies financial institutions are adopting to navigate regulatory pressures and optimize their capital structures in a challenging economic environment.
