Development of a Secondary Mortgage Market

There are fertile grounds for the development of a secondary mortgage
market in Hong Kong as evidenced by the strong increase in outstanding
residential mortgage loans from 8 per cent of GDP in 1980 to 32 per cent
in 1997. A properly developed secondary mortgage market can play a
useful role in channelling long-term funds, such as insurance and pension
funds, to meet the rising demand for long-term home financing.

Since 1994, there have been several issues of residential mortgage-backed
securities (MBS) in Hong Kong. However, the market has been slow to
evolve because of technical issues such as the heterogeneity and
complexity of the MBS product, the prepayment risk and the mismatch
between the floating rate issues, limited liquidity in the secondary market
and the preference of institutional investors for fixed rate paper.

In April 1996, the HKMA conducted a two-month public consultation on
the proposal to set up a mortgage corporation in Hong Kong. A wide
spectrum of the community including the banking sector, capital market
participants and academics have expressed support for the proposal.
There is general agreement that the successful operation of a Mortgage
Corporation will entail significant benefits to Hong Kong in terms of
promoting banking and monetary stability, debt market development and
home ownership. There is also broad support for initial government
ownership of the corporation in securing its acceptance by the market.

Having received the approval from the Exchange Fund Advisory
Committee in July 1996, the Hong Kong Mortgage Corporation (HKMC)
was incorporated in March 1997. The HKMC is a public limited company
incorporated under the Companies Ordinance. It is 100 per cent owned
by the government through the Exchange Fund with a capital base of $1
billion and is recognised as a 'public sector entity' under the Banking
Ordinance. Its business will be developed in two phases. Initially the
corporation will purchase mortgage loans for its own portfolio and fund
the purchases largely through the issuance of unsecured debt securities.
In the second phase, the HKMC will securitise the mortgages into
mortgage-backed securities and offer them for sale to investors.

The HKMC commenced business in October 1997. The first block of
mortgage purchase, involving a total of $650 million, was purchased in
November.

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