Residential Mortgage Portfolio, Product Innovation, Firm Characteristics and Performance of Commercial Banks in Kenya

Abstract

In the recent times, residential mortgage portfolio has received much attention from academics, investors and managers as well as from policymakers. This is mainly because of the different aspects through which mortgage portfolio components such as portfolio size, portfolio quality and interest return can impact the performance of commercial banks. This study sought to investigate the relationship between residential mortgage portfolio, product innovation, firm characteristics and performance of commercial banks in Kenya. The specific objectives were to establish the effect of residential mortgage portfolio on bank performance; evaluate the effect of mortgage product innovation on the relationship between residential mortgage portfolio and bank performance; determine the effect of firm characteristics on the relationship between residential mortgage portfolio and bank performance and examine the joint effect of mortgage product innovation and firm characteristics on the relationship between residential mortgage portfolio and bank performance. These objectives had a number of corresponding hypotheses and sub-hypotheses which were tested to achieve the main goal of the study. The study was anchored on the Modern Portfolio Theory, Agency Theory and Asymmetric Information Theory. The study was guided by positivism research philosophy and adopted a correlational descriptive research design. The study collected and utilized panel data from the annual residential mortgage surveys conducted by the Central Bank of Kenya (CBK) on commercial banks covering a thirteen-year period from 2006 to 2018. Secondary data was collected from the financial statements of commercial banks as submitted to the CBK and Kenya Bankers Association (KBA) database. Data was analyzed using descriptive and inferential statistics. Hypotheses were tested through panel regression models and the Baron and Kenny (1986) approach. The results revealed that residential mortgage portfolio attributes, namely: portfolio quality and interest return significantly influence bank performance. The effect of mortgage term on the relationship between mortgage portfolio quality and bank performance was negative and statistically significant. Loan to value (LTV) ratio was, however, found not to significantly intervene the relationship between residential mortgage portfolio and performance of banks operating in Kenya. For firm characteristics, firm age had a significant moderating impact on the relationship between interest return and bank performance, but does not moderate the relationship between portfolio size as well as portfolio quality and bank performance. Finally, the study revealed that product innovation and firm characteristics jointly affect the relationship between residential mortgage portfolio and bank performance. Specifically, firm size and firm age positively influences the relationships and these were statistically significant. The study calls on bank managers to structure their mortgage quality and interest return in a way that ensures better performance. Since mortgage product innovation and bank characteristics influence the relationship between residential mortgage portfolio and bank performance, the study recommends that bank managers pay close attention to the institutional environment and product characteristics in designing their mortgage loan portfolios. Up to 75% of residential mortgage portfolio in Kenya is controlled by six (6) large banks. The inclusion of other banks in the study therefore introduced the problem of missing values on some variables, which affected the normality of the data and choice of the panel regression model to use. Future studies should consider the use of residential mortgage portfolio as a composite variable based on tested methodologies for more insight on bank performance.