Fears grow that new mortgage drought could hit house prices

Homeowners have been told to expect another slide in property prices after the
general election as fears grow that rising unemployment and a second wave of
mortgage shortages will suffocate the fragile recovery in the housing market.

House prices fell 1.5 per cent in February after seven months of uninterrupted
growth, according to the Halifax, the UK’s biggest mortgage lender. It says
that buyers were deterred from visiting estate agents by the severe cold
weather and changes to stamp duty.

However, Hetal Mehta, an economist from Ernst & Young, warns that a fall
in mortgage approvals in January backs up the view that “the market is
running out of steam”.

This week the monthly survey from the Royal Institution of Chartered Surveyors
(RICS) also warned that its members were seeing a gradual rise in the number
of new instructions from sellers. Simon Rubinsohn, chief economist at RICS,
says: “Supply is certainly catching up with demand as sellers return to the
market, which will hit prices.”Mr Rubinsohn expects house price gains made
between January and June to be wiped out by falls in the second half of this
year.

Ray Boulger, the senior technical manager at John Charcol, the mortgage
broker, also predicts that prices should remain buoyant until the start of
the summer. The turning point could be the general election. Whatever the
outcome, the next government will have to cut spending dramatically in the
face of the enormous public sector deficit. It is likely to lead to rising
unemployment, a blow to any recovery in house prices.

Experts are divided over when these job cuts will occur but they are expected
to filter into the market later this year and into 2011. David Buik, of BGC
Partners, a City brokerage firm, warns that the jobless total will hit three
million by the end of this year “as 200,000 jobs are lost in the public
sector”.

There are also fears that the housing market is likely to be hit by a second
round of mortgage rationing towards the end of the year.

In recent months borrowers have benefited from some of the lowest fixed-rate
and tracker mortgage rates in more than six years. The state-owned or
part-owned lenders have also made big promises about the amount of home
loans offered to borrowers this year.

However, the mortgage market remains a shadow of its former self. Gross
mortgage lending is estimated to be £150 billion this year, compared with
£363 billion in 2007, according to the Council of Mortgage Lenders (CML),
the trade body.

The council has expressed grave concerns about a £300 billion shortfall in
mortgage funding over the next four years as the Government demands that
banks repay the financial support received at the height of the global
economic crisis. Lenders will be forced to divert cash earmarked for new
mortgages to repay the Government’s Special Liquidity Scheme and its Credit
Guarantee Scheme in the early months of 2011.

Wholesale money markets, at one time a significant source of funding for
lenders, remain largely frozen. The CML says that fierce competition for
retail deposits could mean a shortage of new mortgages, or higher rates, or
both.

Other commentators have said that new regulations from the European Union
could force UK banks to reduce the size of their balance sheets by as much
as £530 billion over the next three to four years. A report by Credit Suisse
released this week suggests that state-controlled banks will have to cut
their balance sheet by up to 20 per cent, potentially meaning fewer new
mortgages for customers.

Brokers say that the mortgage market is already in a weak position and can
hardly worsen, particularly for first-time buyers. Big lenders are currently
turning down nine out of ten applications from borrowers with only a 10 per
cent deposit, brokers warn.

David Hollingworth, of London & Country Mortgages, another broker, says:
“It is difficult to see how the mortgage market could slow any more than it
is already. There may be some competition for rates at the moment, but
lending is still extremely limited and affordability criteria remains very
tight. The worst that can happen is that the market fails to improve any
further.”

However, even if mortgage rates do not rise sharply, at some point in the
coming years the Bank of England is expected to raise the base rate from its
current level of 0.5 per cent, pushing up the cost of all types of borrowing
and providing another hurdle to a recovery in the housing market. Ms Mehta
says: “Even a small rise in the base rate will come as a shock to homeowners
on very low mortgage repayments.”

So what does all of this mean for buyers and homeowners now?

First-time buyers

Despite the many potential headwinds the housing market faces, most economists
predict a return to steady house price growth over the longer term because
of a fundamental shortage of housing stock, particularly in the South East
of England. The Ernst & Young ITEM Club forecasts that although national
house prices will rise by only 0.4 per cent next year, this shortage will
result in annual growth of 3.5 per cent in 2012, rising to 6 per cent in
2014.

But property experts remain divided over whether first-time buyers should get
on to the property ladder soon and risk any short-term fall in values or
wait until the economy is more stable. Some mortgage experts argue that now
might be a good time for first-time buyers to try to secure a mortgage
because lending criteria and rates have improved recently, although they
could worsen again over the next couple of years.

Mr Hollingworth says: “There have been some gradual improvements in the
availability of deals for buyers with small deposits in recent months but
mortgage availability could be restricted later in the year, which could hit
first-time buyers.”

The best-buy five-year fixed-rate deal for first-time buyers, available up to
90 per cent of a property’s value, is from Yorkshire Building Society. It is
charging 6.69 per cent, with a £499 fee. HSBC is also offering a
market-leading lifetime tracker deal pegged at 4.49 per cent above the base
rate, a payable rate of 4.99 per cent.

Martijn van der Heijden, head of mortgages at HSBC, says: “In the next few
years some volatility in interest rates may be unavoidable. If you can’t
afford an increase of up to 3 per cent on your mortgage, you should
seriously look to fix your payments.”

Homebuyers

Melanie Bien, director of Savills Private Finance, the broker, says: “Those
looking to buy this year should ensure they negotiate hard on the price,
given that the consensus view is that prices have further to fall.”

This week HSBC unveiled a new two-year discounted deal pegged at 1.94 points
below its standard variable rate, a payable rate of 1.99 per cent, available
up to 60 per cent loan-to-value.

However, brokers argue that homeowners who want to fix their rate should opt
for a longer-term deal to avoid having to remortgage when interest rates are
rising in a couple of years.

The best-buy five-year fix available now is from Leeds Building Society, at
4.6 per cent, available for up to 60 per cent of a property’s value. It has
a large £1,499 fee.

Remortgaging

Homeowners coming to the end of their current mortgage deal will be watching
house prices carefully. Another drop in house prices could push borrowers
into a higher loan-to-value bracket, increasing the cost of a mortgage deal.

Ms Bien says: “If you don’t have enough equity in your home to remortgage, it
is time to try to rectify this by overpaying and reducing your debt more
quickly if you have spare cash available or savings earning very little
interest.”

Case study

Sara Shackleton and her partner, Gary Hay, have secured a mortgage worth up to
90 per cent of the property’s value, enabling the couple to trade up to a
bigger house near by.

Ms Shackleton, 38, and Mr Hay, 43, from Kilbride, Lanarkshire, need more room
to accommodate their expanding family. The couple have a 21-month-old
daughter, Aimée.

They considered the movement of house prices when making the decision to
relocate, but decided that they did not want to wait.

Ms Shackleton says: “The market is still very unsettled but I do not think
prices will fall much farther. We made a considerable profit on our last
property, which helped us to move to a bigger place.”

The couple took a £142,000 mortgage on their new three-bedroom semi-detached
property, worth £167,000. The deal, from Santander, has a fixed rate for
three years of 5.99 per cent. Ms Shackleton says: “We’ll be in this property
a long time so our priority was getting the right home for our family.”

Property experts recommend trading up to a bigger home during a period of
falling prices because a more expensive property will lose more in value
with each percentage point fall in the wider market, making it more
affordable.

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