The Role of Non-Bank Lending in Australia’s Financial System

Non-bank lending in Australia is riskier than bank lending on average since they lend to self-employed borrowers or those who work in industries more sensitive to economic conditions and have low documentation. However, non-bank mortgages have performed well, with low loss rates. Although there is limited data available to measure non-bank lending standards for non-housing loans, non-banks are believed to have less strict lending standards than banks, particularly after the latter tightened their lending standards. 

Non-bank lenders rely on market-based finance or private investors for funding, with their funding structure varying depending on their business model. Securitisers’ funding comes mainly through warehouse facilities during the loan origination phase, and then from the securitisation market once loans are packaged and sold to investors. Non-banks’ warehouse facilities are mostly provided by banks, but Australian banks’ exposure to non-banks via these facilities is small. Non-bank Residential Mortgage-Backed Securities (RMBS) and other ABS issuance have significantly increased in recent years, providing a potential channel for stress among non-bank lenders to be transmitted to banks. Non-securitisers fund themselves mostly through loans and equity, with the greater use of equity funding helping to limit the risks to the wider financial system from non-securitisers’ financing activities. 

Securitizers, such as mortgage and auto lenders, typically have lower levels of capitalization compared to non-securitizers, such as commercial property and some business lenders, because most loans are not retained on their balance sheets. The securitization structure includes loss-absorbing mechanisms that must be depleted before a securitizer’s capital is called upon to absorb losses. Non-bank business lenders are primarily funded through equity or specialized funds, while capital levels for commercial property lenders are higher compared to securitizers due to the loans being retained on their balance sheets. As banks are pulling back from lending for property developments, non-banks are stepping in to finance more senior tranches of developments. This change is resulting in non-banks and other investors increasingly assuming the responsibility of conducting due diligence on borrowers, as banks are less involved in development deals. 

Managed investment funds, including hedge funds, provide credit mainly through investments in fixed-income securities. The lack of data available on their funding sources, lending activities, and capital levels makes it challenging to ascertain their interconnections, liquidity mismatches, and use of derivatives for “hidden leverage.” In Australia, this sector is estimated to be smaller than in other international jurisdictions. Managed investment funds in Australia provided $240 billion in credit in 2022, which accounted for less than 3% of total credit. Most of the credit provided goes toward funding banks and the Australian government, which have minimal default risk and good liquidity in normal market conditions. As of 2022, credit exposure related to non-financial businesses amounted to only $14 billion.