Mortgages  

Future rate rise may wreak havoc

There have been some positive signs of momentum in the mortgage market in recent months with increases in lending activity and house prices (in many, but not all, regions). However these improvements flow from the confidence imbued by cheaper funding, supported by the Bank of England, and subsidies for borrowers from the government through its Help to Buy scheme.

These positive signs are not a reflection of a new, normal competitive market returning in the short term. Therefore we should not be complacent that we are out of the woods. Indeed recent comments by Sir Mervyn King, the former governor of the Bank of England, are a timely reminder that many existing borrowers need to plan ahead for a world of higher interest rates.

Both forms of institutional support will continue in the next few years, and some borrowers will undoubtedly benefit in the short term by accessing the market for the first time or being able to move home. But the industry recognises the need for a clear exit strategy from taxpayer and central bank support. Lenders need to make decisions based on the assessment of risk of borrowers rather than simply relying on government schemes when offering mortgages.

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A recent report by the Royal Institution of Chartered Surveyors, Housing Commission – More Good Homes and a Better UK, highlights how the absence of cross-party political support has undermined housing market efficiency for many years. Its primary recommendation was the need to end short-term and partial policies for housing. And yet, as the Help to Buy scheme coincides with the run-up to a general election, some will argue that this is a populist short-term policy rather than a long-term strategy.

Nevertheless, as a result of institutional support, we are now likely to have increased net lending in 2013 and more of the same in 2014. It was, therefore, interesting timing for both Sir Mervyn and the Financial Policy Committee to warn last month about the risks and consequences of future interest rate rises. Particularly as I doubt that the new Bank governor, Mark Carney, will want to mark his arrival by raising rates any time soon.

The first recommendation of the FPC, reported in the latest Financial Stability Report, was that the FCA and the PRA, with other Bank staff, should provide an assessment to the FPC of the vulnerability of borrowers to sharp upward movements in long-term interest rates in the current low interest rate environment. The regulators have been asked to complete the work in just three months and to report back to the FPC in September 2013.

So a wide ranging review of the likely impact, and with a quick return date showing the FPC’s view of the urgency of the issue. What will the review find? From a systemic point of view I think it will reaffirm that forbearance policies and reporting standards vary between lenders, and that some businesses have significant numbers of borrowers who would be stretched if rates go up.

For example, the Financial Stability Report quotes a stark consumer research finding that 18 per cent of secured loans were held by households with less than £200 of income remaining a month after housing costs and essential expenditure. And we also know from past research by the FSA that 5 per cent to 8 per cent of borrowers benefited from some form of forbearance in 2012. The signs of financial stress are obvious, even if they are not yet reflected in worsening mortgage arrears and repossession figures.