A former landfill site 10 minutes’ drive from Nottingham’s town centre is an unlikely symbol for the fortunes of the UK’s struggling mortgage-backed securities market.

In the centre of the Showcase Cinema leisure park, amid knee-high weeds and broken bottles, stands a barn-sized building that used to house the city’s biggest nightclub, called Isis. In 2009, amid a deepening recession, police ordered its closure after an R&B music night when a clubber was stabbed. It was not long before the club’s owner, James Eftekhari, fell behind on his mortgage repayments.

The Isis mortgage was one of 27 ‘sliced and diced’ commercial property mortgages that had been rolled up into London & Regional Debt Securitisation No 2, a £256m MBS that subsequently defaulted. Five years later, in an echo of the wider sluggishness in the UK MBS market, the nightclub still stands vacant.

Volumes of UK MBS, whereby banks package commercial and residential mortgages for sale to fixed-income investors, have traditionally been among the biggest in Europe. But volumes of $5.1bn for the year to date are poised to plumb the lowest annual total since the financial crisis in 2009, according to Dealogic.

Volume of mortgage-backed securities issued poised to hit lowest since 2009 crisis

“Issuance has gone off a cliff since 2011,” says Ganesh Rajendra, managing director at Royal Bank of Scotland.

The primary reason for the fall is simple: banks do not need the funding. After volumes rose in the wake of the crisis — 2010 saw a nearly tenfold increase in ABS issuance year on year to $30bn — they declined sharply in 2012 after the Bank of England’s ‘funding for lending’ scheme (FLS), which offered banks cheaper funding than selling ABS on the open market.

“Banks’ need for securitisation funding has been diminished,” says Neal Shah, managing director at Moody’s. “Banks have been deleveraging their balance sheets over the past few years, and at the same time have had access to various forms of relatively cheap liquidity, including FLS.”

Even as volumes shrank, investor demand remained robust. The result is that spreads — the amount of interest paid over the London Interbank Offered Rate — have declined markedly.

“Expectations of new issuance collapsed,” says Dipesh Mehta, research analyst at Barclays.

“Before FLS a senior tranche of a residential mortgage-backed security was priced at 150 basis points over Libor — now the same senior RMBS tranche is trading at between 30-50 basis points over Libor.”

As the big high street banks reduce volumes, challenger banks such as Virgin Money and Aldermore picked up some of the slack, albeit with smaller issues.

In 2010 smaller banks and building societies accounted for 5pc of MBS issuance. This year they account for two-thirds, according to research by RBS.

But there is light on the horizon. FLS is scheduled to end next January. Banks will have to return to capital markets for funding and, with spreads predicted to remain low, ABS offer an attractive option.

“When funding for lending stops in January next year, we will see a substantial amount more issuance coming from banks,” says Emma-Jane Fulcher, head of structured finance at Arc Ratings.

While nobody foresees a return to the heady pre-crisis peaks of 2007 — when MBS issuance amounted to $154bn — Mr Mehta predicts 2015 MBS volumes could more than double to between 10bn euros and 15bn euros.

Another helping hand could come from a more unexpected source: Mario Draghi, president of the European Central Bank.

Mr Draghi’s announcement to begin buying up to 1tn euros in euro-denominated ABS and covered bonds from as early as this month has already seen spreads tumble in the eurozone. Demand from yield-starved investors could spill over into the UK market.

In response, M&G, the asset fund manager, hopes to raise £1bn for a fund specifically dedicated to those ABS excluded from the ECB’s remit, such as MBS.

“Sectors that are non-eligible for the ECB are seeing a decent amount of spillover demand, including for UK assets,” says Mr Rajendra.

In June the BoE said facilitating better functioning securitisation markets was one of its ‘medium-term’ targets.

The big hurdle — belatedly acknowledged by the ECB and BoE — is regulation that proposes higher capital charges for ABS relative to other assets, such as covered bonds, held by investors subject to capital adequacy regulations.

While the ECB’s purchase plan has sparked a debate about the need for lowering ABS capital charges, big investors, such as insurance companies, remain bit players.

“Because of regulation you have insurance companies, who traditionally accounted for 30pc of the market, sitting on the sidelines,” says Patrick Janssen, ABS portfolio manager at M&G. “The market will pick up — but we’re not expecting a big rush.”

Published in Dawn, Economic & Business, October 13th, 2014