A brand new wave of loans

The next couple of months looks set to bring further competition to a crowded mortgage market. A number of well-established names in finance - although they are new to mortgage lending in the UK - plan to open their doors to residential borrowers and the buy-to-let mortgage in the first half of 2006. As many as half a dozen new lenders could launch this year, financial experts suggest.

The companies include Deutsche Bank, Morgan Stanley and Oakwood, a new company formed by executives mostly drawn from HBOS. They are expected to focus on specialist lending and, possibly, the buy-to-let market. "[The lenders] are likely to focus on the sub-prime and adverse credit sector, where there's opportunity to generate higher margins and which has seen growing interest from mainstream lenders in recent months," says Mark Chiltern, the managing director at brokers Purely Mortgages.

Sub-prime lenders offer mortgages to home buyers who have irregular or hard-to-prove sources of income, as well as to people who have had problems with credit in the past. Such loans can attract interest rates as high as two per cent more than regular "prime" lending deals, because of the higher risk that borrowers will fall behind with their loans. But modern technology makes it easier for mortgage companies to assess an individual's circumstances. This means they can lend profitably in the sector, without too great a risk of bad debt.

Technology will be one way the new lenders will aim to differentiate themselves in the market. Sophisticated underwriting systems allow mortgage companies to offer cheaper loans in the sub-prime market, because they can be more precise about the risk attached to each applicant's case. Such technology is one factor that encouraged a number of established lenders to move into the sub-prime market last year. Another was that, with the mainstream mortgage market already highly competitive, lenders are having to look further in order to win new business. But the decision by some of the larger banks and building societies to offer sub-prime loans may well have encouraged the new wave of lenders to break into the UK market.

The new lenders are also likely to try to set themselves apart by offering a better service, to borrowers, financial advisers and other intermediaries, who will provide much of their business. "The new entrants will have to differentiate themselves from the herd, so expect serious marketing on service propositions and technological innovation," says Mark Harris, the managing director at Savills Private Finance, the mortgage brokers.

The new lenders are almost certain to compete strongly on price, not least because they do not have to service a large number of existing loans. Ray Boulger, the senior technical manager at mortgage brokers John Charcol, expects this year to continue last year's downward pressure on sub-prime mortgages. "The gap between mainstream and sub-prime lending will narrow," he suggests.

A similar trend could apply to the buy-to-let mortgage market. The prospects for buy-to-let were dealt something of a blow last year, when Gordon Brown, the Chancellor, announced that residential property would not, after all, be allowed in self-invested personal pensions (Sipps). But further competition could cut buy-to-let interest rates, boosting the returns for investors who raise some or all of their finance through a mortgage.

Some observers expect the newcomers to tackle at least part of the mainstream mortgage market too. One area they might consider is higher-value loans: borrowers in the upper echelons of the property market value good service, as well as keen pricing.

With at least two other US investment banks thought to be planning to offer mortgages in the UK, alongside Morgan Stanley, Deutsche and Oakwood, it could be a tough year for lenders - but a good one for borrowers.