Lease-to-Purchase Housing Finance in Chile: Context, Past Experience, Future Opportunities & Challenges Conference: Expanding Housing Finance to the Lower Income Groups The World Bank, Washington D.C. 17 March, 2006 Presented by: Juan Enrique Montes Gerente General de Securitizadora Security GMAC-RFC S.A.

2 Outline of Presentation Context: Macroeconomic Scenario Income Distribution and Housing Needs Housing activity Lease-to-Purchase Housing Finance: Past Experience and Current Status Funding Players in Housing Activity Leasings versus other Financing Vehicles Historic Evolution The Role of Government MBS: Securitization of Leasings and Mutuos Hipotecarios Endosables (EMC) ABS Track Record MBS Track Record Mortgage Prepayment Impact on MBS Securitizatio of Lease-to-Purchase Housing Contracts: Future Opportunities and Challenges Needs, Opportunities & Challenges Expected Future Outcomes

3 Macroeconomic Scenario: GDP Dynamism

4 Macroeconomic Scenario: Spread Comparison

5 Macroeconomic Scenario: Unemployment Rate

6 Income Distribution & Housing Needs

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9 Housing Activity: Sales v/s Housing Deficit As of 2002, Housing Deficit reaches 543,000 houses or 14% of Total Housing stock Housing Deficit is explained by 2 basic factors: 387,000 difference between number of Families v/s Number of Houses 155,000 of houses in poor structural conditions House building pattern (120,000 new houses per year) would take 4,5 years to meet Housing Deficit Needs However, population growth (1.3%) plus social-economic changes has meant a 2.3% housing need growth In addition to that, house deterioration also boost housing needs Considering just home 2.3% growth and 4% house building growth, Chilean housing deficit would disappear in 12 years This housing deficit is focused in the lowest socio-economic spectrum, thus representing a long-term demand for leasing

10 Housing Activity: Sales v/s Housing Deficit In 2005, house sales reached US$ 3.2 billion in Santiago. (This data does not include houses provided by the government to poor people) These sales only represents houses valued at US$ 17,500 (or more) Leasings typically funds US$ 17,500 to US$ 52,500 houses 33% of total sales (in number) are concentrated in the Leasing niche but, in terms of amounts, sales in this niche represent 13% of the total volume Thus, this segment reached US$ 420 million sales in 2005 Giving that Santiago represents 40% of Chile housing activity, we may estimate Leasing Market Volume at US$ 1 billion per year Economic growth (through employment & wages increases) plus Income Distribution improvements may boost this market volume

11 Housing Activity: Public v/s Private Sector Roles Government Activity: Has focused on supporting poor people Has basically used a demand-side approach Has replaced loan by subsidies to poor people US$ 8,700 houses are simple provided (free) to very poor people Houses of higher values may be purchased by using subsidies

12 Leasings : Funding Players in Housing Activity Real Estate Developers and Constructing companies Bank Loans Demand Side Funding: Government Funding Mechanisms and Banco del Estado (average mortgage of Banco Estado: US$ 9,000). Commercial Banks Loans (average mortgage:US$ 56,600) “Mutuos Hipotecarios Endosables” (EMC) Leasing Habitacional (Lease-to-Purchase Housing Vehicle)

13 Leasings : Pros/Cons v/s Alternative Vehicles Advantages No tax applicable (Alternatives: 1,6% of Loan Volume) No down-payment (Alternatives: non less than 25% of house value) Houses of US$ 35,000 (or less) are eligible for automatic subsidy (Alternatives: Subsidy uses an “application system”) Collateral is the house (Alternative: Mortgage over the house) Legal Framework allows quick “arbitral” legal process (Alternative: Longer legal process) No tax for investors if house is a “DFL-2” (Alternative: pays 17% corp. tax or personal tax, DFL2 is an “economic house of 140 or less sq. meters) Disadvantages Relatively new vehicle (Alternatives: More than 25 years track record provides experience) Some uncertainty in case leasings are used as collateral and borrower falls into bankruptcy (Alternatives: Pledge over EMC presents no legal uncertainty) Must be held by a Securitizadora, Lease Originator or Real Estate Fund, only (Alternatives: EMC are eligible for Life Insurance Companies and Banks) Consequences Leasings has focused in medium income segments (US$ 17,500 to US$ 52,500 houses) Leasings have not been fully exploited in terms of volume and rates

14 Leasings: Historic Evolution of Funding Vehicles

15 Leasings: Historic Evolution of Funding Vehicles

16 Leasing: Historic Evolution of EMC & Leasings

17 Leasings: The role of government Demand Side Subsidy (Borrower) Eligibility: House Values of US$ 8,750 to US$ 35,000 Magnitude: 11% of House Value (From 56% to 9%) Leasing Case: New (Bond) System v/s Old System Supply Side Subsidy (Originator) Eligibility: House Values of US$ 21,000 or less Magnitude: 2.3% of House Value (“Modest” Houses) Lender Subsidy (SPV or other credit holder) Eligibility: House Values of US$ 21,000 or less Loss Limit capped at US$ 7,000 or 75% of loss volume

18 As of December 2005 in US millions Total InvestmentABSPenetration Pension Funds ,4% Life Insurance Co ,7% P&C Insurance Co ,9% Banks16.168N/A Mutual Funds ,3% OthersN/A701N/A Total ,4% * MBS Track Record: Capital Market Penetration

19 Figures in Millions US$ MBSNon MBS Total Total Bond Number of Total SPV's Total Total Bond44%56%100% Number of Total SPV's54%46%100% MBS Non MBS ABS Track Record: Outstanding Bond Volumes

20 Mortgage Prepayment Impact: Risk-Free Rate Trajectory

21 Mortgage Prepayment Impact: MBS Shock Note: 2 of the 11 downgrade-liquidated cases were impacted by asset default performance and prepayment, whereas 9 were impacted by prepayment only

22 Mortgage Prepayment Impact: Long-Term Consequences No (or negligible) negative equity on Senior Bonds Originators not able to continue making short-run profits Rating Risk Agencies and Securitizadoras improving structures Regulator increases control Institutional investors more able to assess different risks In sum, a deep change on MBS industrial organization

23 Securitization of Leasings: Opportunities & Challenges Social and Private Needs: Housing deficit reduction Leasing penetration & rates reduction Higher MBS penetration: Improve volumes, liquidity and risk features Challenges : Government: Improve Leasing legal framework, Simplify ABS issuance rules Rating Risk Agencies: Anticipate potential portfolio changes Originators: Adaptation to new business environment and improve U/W criteria Securitizadoras: Boost MBS penetration Opportunities: Originators: Focus on originating activities Banks: Provide long-term funding to warehouse and/or credit enhancement Securitizadoras: Launch a new business model

24 Securitizations of Leasings: Opportunities & Challenges Expected Future Outcomes Housing deficit reduction Individuals with more funding opportunities Long term bankers with more loan exposure Private credit enhancement replaces Government subsidies Capital Market (MBS) development Securitizadora and Originators more focused on their core competencies