EconomyIssue 02 2023MAGAZINE
GBO_UK mortgage

UK mortgage misery: Homebuyers in dismay

The number of mortgage approvals for new house purchases in the United Kingdom rose to 43,500 in February 2023 from 39,600 a month earlier

The latest UK inflation data, as measured by the Consumer Price Index (CPI), has eased from 10.4% to 10.1% in the year leading up to March 2023. The reduction, however, has continued to defy analysts’ expectations by remaining in double digits, a phenomenon which started in the latter half of 2022.

Analysts predicted the inflation ratio to come down to 9.8%. However, the latest data has defied their expectations. Consumer prices rose by 0.8%, compared with a figure of 1.1% recorded both in February 2023 and also for March 2022. The latest downfall in the inflation figures came from motor fuel, housing and household services. However, these positive developments were offset by rises in food costs (by 19%).

Michael Saunders, a former policymaker at the Bank of England, told Radio 4’s ‘Today Programme’ that the latest inflation figure will in all likelihood, force one more interest rate increase by the Bank of England.

However, he hoped that the European powerhouse is “now, just about, finally at the turning point”, and the inflation would fall “pretty sharply” over the rest of 2023. However, BoE’s target is to keep inflation at 2% and given the latest CPI index, it’s pretty obvious that BoE, in its next meeting on May 11, will go for another round of monetary policy tightening.

If the above development happens, then the sector which will feel the immediate impact of the interest rate hikes will be the mortgage market.

Getting the mathematics clear

As of April 2023, two million British homeowners are having variable rate deals (“adjustable” or “floating” interest rates on a loan/security fluctuating over time as the entity is based on an underlying benchmark interest rate or index that changes periodically).

Variable rate deals like base rate trackers will see an almost immediate rise in their monthly repayments after each round of monetary policy tightening. A tracker rate rising from 4.5% to 4.75% will cost around an extra £31 a month on a £200,000 loan taken over 25 years.

Those having fixed-rate deals will not face the scenario, as their interest rates will remain locked for a specific ratio for a definite period. So these homeowners and their monthly loan payments will be immune from BoE rate hikes. However, when the original deal ends, the next available mortgages will be more expensive.

The latest house price index from Nationwide Building Society showed that property prices fell by 3.3% in the 12 months to March 2023, with prices down 0.8% month-on-month. It’s the seventh monthly fall in a row, and it leaves prices 4.6% below their peak, recorded in August 2022.

Property portal Rightmove also stated that the average cost of a home being listed for sale in April 2023 now stands at £366,247, which is 1.7% higher than in 2022 and just 0.2% up on March 2023.

Stamp Duty cuts announced by the UK government 2022’s ‘Mini-Budget’ also raised the nil-rate band on the purchase of a property from £125,000 to £250,000. Despite the Rishi Sunak regime making diversions on the tax front, after a disastrous 45-day rule of Liz Truss, the Stamp Duty arena didn’t witness changes.

Coming back to the tracker mortgage, a very popular variable mortgage, if the base rate rises, the monthly payments will increase. If the rate gets relaxed, loan payments will get cheaper.

The lender is tasked to communicate with the consumers on the new monthly payments, as soon as the bank rate changes.

What’s the current scenario?

As per a Bloomberg report, the number of mortgage approvals for new house purchases in the United Kingdom rose to 43,500 in February 2023 from 39,600 a month earlier. As per the Bank of England, the increase in the approval rate was the first such hike since August 2022.

Yes, it’s good news indeed but if one looks at the bigger picture, things are not that picture-perfect either. The effective interest rate (real return on a savings account or any interest-paying investment), which is the actual rate paid on new mortgages, rose to 4.24% in February 2023, from 3.88% in January, while the rate on outstanding mortgages rose from 2.54% to 2.64%, said BoE.

If the increase in the number of mortgage approvals is seen as a ‘recovery sign’, the fact is that the rates have now become higher on a long-term basis. Due to this, property prices have gone higher as well, adding more pain to the ongoing cost of living crisis.

Signs of another crisis?

A Bloomberg report states, “A housing affordability crisis is brewing in the UK, with more than 1.4 million homeowners forced to refinance their mortgages this year at significantly higher interest rates. Many will have to slash their spending on other expenses to cover the higher costs, while others may simply find it impossible to make ends meet.”

The Bank of England increased its base rate to 4.25% in March 2023 and will go for another round of monetary policy tightening. Due to this, over 4 million British households are now having significantly higher mortgage costs, as they continue to tussle with soaring prices of daily necessities.

A Bank of England data shows that many UK borrowers expect mortgage rates to fall back to recent lows again by 2027. However, signals from the central bank, which has been tasked to keep the inflation at 2%, suggest otherwise.

Banks, while deciding mortgage rates, look at a range of factors. These lenders tie their rates closely to long-term government bond rates since the latter is where the depositors’ money gets invested at times by these banks. If the cost of borrowing for the government increases, mortgage rates follow the upward direction.

These lenders also factor in additional risk (called a risk premium) to their mortgage rates, keeping in mind the scenario that households and individuals can sometimes default on their mortgage repayments. When determining the risk premium, lenders also consider how much they are lending the consumer vs. the deposit the latter has for his/her dream homes, along with the consumer’s credit history, ability to make repayments and future job stability.

Bank of England also plays a crucial role here, as its base rate decides mortgage rates, apart from setting the benchmark for the borrowing and lending costs for the banks.

Talking about 2023, the black clouds of inflation are still dominating the global economic landscape. Central banks are still increasing their interest rates. Europe and the United Kingdom prefer having an inflation ratio of 2%, but the target looks a far-fetched one. Even though inflation is slowing down, but not at the pace the analysts like to see, so expect the bank rates to maintain an upward trajectory. Even if the rates get eased, the margins would be small, thus making very little difference for the mortgage lenders.

While the governments’ costs of borrowing in some countries have come down now, they are still relatively high. Given the fact that interest rates for businesses and households are decided based on these bonds, don’t expect mortgage payment costs to undergo a significant reduction in the coming months.

The latest Financial Times report suggests that first-time house buyers in the United Kingdom are selecting smaller properties to offset rising mortgage costs.

These buyers are now choosing the best two-bedroom property, as per the 2023 first-quarter house sales data. As per estate agent Hamptons and property sales network Countrywide, the large home segment is witnessing a demand slowdown (for the first time since 2010), due to the sharp rise in borrowing costs.

The crisis-like situation started in 2022, as the mortgage rates shot up by 6% after then-chancellor Kwasi Kwarteng’s ‘Mini Budget’ had sparked fears that potential first-time buyers would be pushed out of the housing market by borrowing costs. However, the latest trend shows that buyers are compromising on their ‘Sweet Home’ dreams, as they are opting for smaller properties currently.

“Most first-time buyers, once they have saved up their deposit, want to get on with their purchase. Those who can afford to do so are carrying on buying, and compromising on size,” said Aneisha Beveridge, head of research at Hamptons, while interacting with the Financial Times, suggesting a slowdown in the pace of home sales, which has now brought a major slump in the property market, which witnessed a boom in 2021 and 2022 due to cheap mortgage rates and government incentives to deal with COVID’s financial fallouts.

The number of house sales agreed upon was too down by 16% in March 2023, compared with the same month a year earlier, according to property website Zoopla. The latest ratio, is however 11% higher than March 2019 numbers.

And then you have contrasting data on the sector’s health. Mortgage provider Halifax showed that property prices went 1.6% higher year on year, while figures from Nationwide showed a 3% annual drop, the largest since 2009.

Lenders need to do more

As per reports, Yorkshire Building Society has announced reduced mortgage rates on the majority of its housing-related financial products, including those at a high 90% loan-to-value.

“Products which had their rates slashed by five basis points include a 4.82% fee-free five-year fixed rate at 90% LTV with a £1,000 cashback and free standard valuation,” stated the report from ‘Mortgage Introducer’.

“Another 90% LTV product with a 0.05% rate reduction was the 5.02% two-year fix for purchase and remortgage with a £1,495 product fee, free standard valuation, and free remortgage legal service,” it stated further.

“The markets remain very much in flux, with funding costs varying significantly from one day to the next. Amid this environment, we are watching vigilantly for any and all opportunities to pass on added value to our customers,” commented Ben Merritt, director of mortgages at Yorkshire Building Society.

“This reprice represents our latest attempt to do that and, we hope, offers some attractive options, particularly for borrowers who have smaller deposits to put down,” he said further.

Even if not in a state of crisis, the cloud of negativity hovers large over the UK property market, after it reaped the benefits of enjoying a decade of low interest rates.

The country’s journey to the 2% inflation scenario won’t be completed anytime soon, and with every BoE rate hike, the mortgage rate too will go up. The rental market is in a tight state of affairs now, so expect people to compromise to some extent on their property dreams.

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