Britain faces up to the prospect of house prices American-style
By Norma Cohen
Financial Times
Published: April 1 2008 20:05
With Americans defaulting on their mortgages at a rate not seen since the
1930s Depression and house prices in main US metropolitan markets 12.5 per
cent off their mid-2006 peak, uncertainties are rising in other countries
where housing values have enjoyed a big recent run-up.
Spain, for one, is showing a sharp contraction in the number of home
sales,
often the precursor to a price crash. But it is Britain where the
similarities are arguably greatest.
Many Americans who bought their homes in the past year or two now owe more
than the property is worth. This state phenomenon of ¡°negative equity¡±
is
one with which the UK is all too familiar: tens of thousands of British
homeowners, struggling to meet their monthly repayments during the early
1990s downturn, simply moved out, handed over the keys and left their
lender
to sell the place and pursue them for the remainder. Thus fears exist that
the emergence of the phenomenon in the US may precede its UK return.
Michael Saunders, economist at Citibank, asked whether house prices in the
UK will follow the US, says: ¡°The answer in general terms is Yes,
although
the excesses in the UK market may not be exactly the same as in the US,
[so]
the details differ.¡± The question, he suggests, is merely one of degree.
Certainly there are differences that could make Britain better placed than
the US to withstand a housing downturn. Adjustable mortgages that have low
¡°teaser¡± rates up front but quickly become much more expensive to
service
are less prevalent in the UK. These loans account for a dispro****tionate
number of delinquent loans in the US, amid accounts of home buyers having
signed up without appreciating the terms.
The US mortgage landscape is, moreover, littered with allegations of fraud
in an industry where regulation is scant, whereas little beyond scattered
anecdotal evidence of this exists for the UK, where mortgage broking has
been regulated by the Financial Services Authority since 2004. In addition
there are demographic, geographic and policy differences: the UK Council
of
Mortgage Lenders notes, for instance, that supply is limited because
building homes is far harder than in the US, where land is plentiful and
cheap.
Others are more sceptical. Ed Stansfield, property economist at Capital
Economics, dismisses the argument that supply constraints put a floor
under
house prices. Economic demand for a home ¡© as opposed to the simple
desire
to own one ¡© means it has to be affordable. ¡°Structural demand is one
thing
and economic demand is another. It is the latter that determines house
prices.¡±
Futures trading, reflecting what investors believe house prices will do,
implies that the UK may be in for a drop of 20 per cent in nominal terms.
¡°It¡¯s not Armageddon,¡± says David Miles, economist at Morgan Stanley in
London: adjusted for inflation, the implied fall of 15 per cent would
bring
home values back to their level at the start of 2006.
But would any decline be limited to that? Clearly, house price inflation
has
far outstripped growth in incomes in recent years. According to the
Halifax,
one of Britain¡¯s biggest mortgage lenders, affordability is at its
weakest
since records began 25 years ago.
At the heart of concerns on both sides of the Atlantic is the increased
pro****tion of loans that until last year were made available to those who,
because of poor credit or low incomes, would not have been able to buy a
home before. By extending credit to these groups, the pool of demand for
housing in both the US and the UK widened sharply, helping boost house
prices.
The FSA estimates that as many as one in every three mortgages made
between
March 2005 and September 2007 should be deemed risky. Of these, a third
are
high-risk because they have at least two of three characteristics: a low
deposit, a high loan-to-income ratio and repayment terms longer than 25
years. Borrowers with all three are most likely to default, it concludes.
The implications for the market as a whole are less clear. As Mr Miles
says:
¡°There are people with a vested interest in talking the market up or
talking
the market down. But talk is cheap.¡±
Forecasting is made exceptionally difficult in the current slowdown
because
non-traditional loans have a short history. The subprime and buy-to-let
markets favoured by amateur landlords did not exist the last time the UK
housing market was in the doldrums. Peter Williams, chief executive of the
Intermediary Mortgage Lenders Association, a trade organisation
representing
most of the non-bank entrants to the UK market, accepts that ¡°none of
these
markets has been tested in a recession¡±, adding: ¡°No one can predict how
they will perform.¡±
Subprime lending, including buy-to-let, may represent as much as 20-25 per
cent of the UK mortgage loans outstanding. ¡°US firms came here with US
technology and sliced and diced the market and showed the market that
there
were [other] profitable people to lend to,¡± Mr Williams says.
Much of the extra lending became possible because the capital was provided
not from the traditional banking system but the international capital
markets. Lenders borrowed money to make home loans, especially to
higher-margin but lower-quality borrowers, and sold the mortgages to
investment banks that repackaged them as bonds to be offered to investors
worldwide.
This securitisation process became a feature of both the UK and US
mortgage
markets ¡© and it intensified competition among lenders. Specialist
lenders ¡©
which depend heavily on securitisation for funds ¡© saw their market share
double to about 20 per cent of new UK mortgages.
The fierce competition in the UK led to unusually cheap mortgages, so that
by the first half of 2007 some banks were even lending cash at less than
it
cost them to borrow. Thus high house prices did not deter buyers, because
loans appeared afford¡©able. Strong house price inflation led people to
believe they could sell their home at a profit or re¡©finance it if
interest
rates rose.
That same phenomenon marked the US market, which the UK appears to be
trailing by 12 to 18 months. Homes in England and Wales were still growing
in value by 6.8 per cent year-on-year in February, according to the latest
Financial Times house price index. But, stung by the global credit crisis
and loan losses in the US, where default rates are above 2 per cent of all
outstanding mortgages, British lenders are pulling back sharply, no longer
willing to offer mortgages just to maintain market share.
Although UK base rates have been cut by half a percentage point in recent
months, average mortgage rates are little changed and for some borrowers
are
higher than before. Deposits are being imposed that require home buyers to
have an equity stake in the property from the start. Riskier owners hoping
to refinance may find themselves frozen out ¡© leading to fire-sales of
homes, which would drive prices down.
It is exactly this scenario that led to the US slide. Small wonder, then,
that house price anxiety is growing in the UK.
http://www.ft.com/cms/s/0/aa0779c2-000b-11dd-825a-000077b07658.html
|
