Should APRA take note of UK lending stress test changes?

Mr Wargent explained that the decision came after England’s base cash rate was only raised “by a maximum of 0.50 percentage points between 2017 and 2021”, which led the bank to conclude that its stress test was “far too stringent”.

He added that from this month, the easing of the rules means lenders only need to be assessed for the aforementioned 1 percentage point increase; however, “rising power bills will also need to be factored in”. 

“Counter-intuitively, the change comes at a time when the Bank of England base rate is expected to rise further, having until recently been stuck at 1 per cent or lower since 2009. 

“This may appear to be contradictory, but the bank is now already some 165 basis points into its hiking cycle, so as the rate hikes flow through it means that a rigid buffer would mean stress-testing for an unrealistically high terminal rate, starving the market of funds, making refinancing unfeasible for many mortgagers, and unnecessarily pricing out many first home buyers,” Mr Wargent said.

As a result of the blueprint laid by the BoE, BuyersBuyers chief executive officer Doron Peleg believes it is time the equivalent stress test on home soil comes under fire. 

“In early October 2021, APRA introduced a requirement for a lending assessment buffer of at least 300 basis points, which was deemed prudent at the time to address systemic risks, and reflective of evolving market pricing for the trajectory of interest rates,” he proclaimed.

Mr Peleg posited that with the cash rate having already been lifted to 1.85 per cent this month, and with the expectations of at least another 50 basis point increase, such rigorous testing requirements would “no longer make sense.” 

“Especially with the banking system so well capitalised, and with the regulator confirming that sound lending standards continue to be applied overall,” he added. 

“Australia’s three-year government bond yield is now trading at well under 3 per cent, and the terminal cash rate for this cycle is also expected to be somewhere around that level.”

While not calling for the stress test to be reduced to the level proposed by the BoE, Mr Peleg did explain how a buffer of 2 percentage points would make more sense now, “not least because the current rules make it far too difficult for many borrowers to switch lenders, often leaving them trapped on an unattractive mortgage rates and poor terms”.

Providing further elaboration on why a stress test reduction would be welcome, Mr Wargent explained that many borrowers now are “finding it impossibly difficult to refinance when lending standards are so tight, leaving them stuck with unattractive mortgage rates or on challenging repayment terms. This is actually a net negative for financial stability risks.”

However, despite the positive achievements a buffer reduction might have on Australian mortgage holders, Mr Wargent did acknowledge the difficulty that surrounds such an alteration, especially with regards to the negative perception received in the media.

“It is sometimes difficult for regulators to communicate the reasoning behind changes, which are often either misunderstood or misreported by non-financial media outlets or ‘shock jock’ websites,” he said. 

“For example, even a reduction in the lending buffers to 2.5 percentage points would inevitably be perceived by many media outlets as increasing the risks to financial stability, whereas in reality the opposite would be true. The ability of existing borrowers to refinance is a critical safety valve for the housing market and for financial stability.” 

He concluded that it’s unlikely to increase to anywhere near the implied 5.35 per cent in the current monetary tightening cycle, and as such, “assessing borrowers for such extreme outcomes would thus be unnecessary, at a time when Australia is close to experiencing full employment, and rental vacancy rates are tracking at near-20-year lows”.