CML news & views

Mortgage debt and housing equity are among the hottest of political topics at the moment. Clearly, at the level of individual households, the relationship between the two will vary significantly. But the reality is that in aggregate the value of unmortgaged housing wealth held by home-owners dwarfs the amount of mortgage debt. Overall, this leaves the majority of owner-occupiers in a strong position. 

Last week, the Bank of England published data on the amount of housing equity withdrawal. The Bank defines this as borrowing secured on property that is not re-invested in housing, either through home purchase or improvement. According to the Bank’s data, housing equity withdrawal fell sharply in the final three months of last year to £7.2 billion – one-third less than the £10.8 billion withdrawn in the preceding quarter. Quarterly data on housing equity withdrawal can be volatile, making it difficult to discern trends from over the short term. But it is possible that the decline in housing equity withdrawal at the end of last year indicated a more cautious approach, with the prospect of slower house price growth and higher borrowing costs making home-owners more reluctant to withdraw housing equity.   

The Bank’s data shows housing equity withdrawal totalled £41 billion in 2007. The natural assumption is that such large numbers – and any short-term fluctuations in housing equity withdrawal – are automatically significant for the UK economy. But these numbers also need to be viewed in the context of the enormity of the household sector within our wider economy. 

The scale of household wealth 

The first point to make is that the overall net wealth of households is huge – totalling £6,900 billion, or £6.9 trillion, at the end of 2006. Household wealth has also increased dramatically in recent years, swelling from £3.1 trillion 10 years ago and £1.4 trillion 20 years earlier. Physical assets are the largest component of household wealth, amounting to nearly £4 trillion at the end of 2006. The bulk of this – some £3.7 trillion – comprises residential property. The proportion of household net wealth represented by physical assets has varied a lot over the past 20 years, dipping well below half in the mid to late 1990s, but it has recovered substantially in the past few years.

Chart 1: Components of household wealth, £bn

Source: UK Statistics Authority  

While stock market fluctuations and other factors have influenced trends in wealth, house price movements and the underlying growth of home-ownership have been the main influences. Housing wealth has grown inexorably since the mid-1990s. But, despite this, the proportion of household net wealth invested in physical assets has not regained the peak level seen in the late 1980s. 

Net financial assets are the other principal component of household net wealth. At the end of 2006, financial assets stood at £3.8 trillion. This modestly exceeded the value of residential assets, but a significant element of this wealth is held indirectly by households in the form of life assurance and pension funds. Retail savings – totalling £830 billion at the end of 2006 – make up the bulk of readily accessible financial assets. Mortgages have become a progressively more important element of household borrowing since the early 1980s, and now account for three-quarters of the total financial liabilities of households.

Housing wealth and buy-to-let 

The overall picture is clearly a reassuring one, with household assets significantly exceeding household liabilities. But the rapid growth of buy-to-let activity over the past decade means that the official figures are no longer an exact proxy for the position of owner-occupiers. The official figures are also a little dated. So what can we do to address these weaknesses in the data? 

The first thing we have to do is to estimate how much of the privately-held housing wealth relates to private rental properties. This is relatively straightforward for the past decade, because the Survey of English Housing suggests that the proportion of the privately rented stock owned by institutional landlords has been relatively stable at less than one-fifth. For 2006, this adjustment reduces the estimate of housing wealth held by home owners by 12% to just under £3.3 trillion.

Chart 2: Number of residential mortgages in UK, 000s  

Source: CML  

We know from our own surveys that the number of residential mortgages has grown by 1.3 million since 1996, but that the bulk of this increase has been in buy-to-let loans, which now total more than one million. Indeed, the estimated number of home-owner mortgages has shrunk modestly, by about 40,000 a year, over the past five years. 

If we then make a simplifying assumption that residential properties have similar values, regardless of tenure and whether they are owned outright or subject to a mortgage, we are able to estimate the total amount of housing equity that home-owners have and how this splits between those who own their homes outright and those who are buying with a mortgage. The results are shown in Table One. The figures show that the aggregate position of home-owners has been very healthy over the past decade or so. 

Table 1: Estimated housing equity held by UK home-owners 

Source: UK Statistics Authority, CML surveys and estimates
Note: 2008 figures are forecasts based on CML market forecasts published in October 2007  

The growth of housing wealth 

We estimate that home-owners had total housing wealth of £3.5 trillion last year.  Within this, those owning their properties outright had equity of about £1.5 trillion.  Although home-owners had mortgage debt of more than £1.1 trillion, this still left free housing wealth – that is, housing equity not subject to a mortgage – at a record £2.5 trillion.   

If we look more closely, we see that the rate of growth of mortgage debt has outpaced that of house prices and overall housing wealth since the late 1990s. As a result, there has been a slight erosion of free housing equity relative to total housing wealth since 2002. At the end of 2007, it had fallen from a peak of nearly 72% to a little under 70%, but was still comfortably above the level prevailing for most of the 1990s. 

The strong growth of mortgage lending in recent years has meant a more tentative growth in free equity over the same period. Mortgage debt now exceeds the amount of free equity held by borrowers, as it did for most of the 1990s. Borrowers have seen their free equity decline as a proportion of housing wealth from a recent peak of 54% in 2002 to 48% last year, although it still remains higher than for much of the 1990s. And free equity held by mortgage borrowers stood at nearly £1 trillion at the end of 2007, a more than threefold increase on a decade earlier. It is clear that both those who own their home outright and those buying a property with a mortgage hold significant amounts of housing equity, and that these will provide many households with a range of coping strategies if their financial circumstances were to deteriorate.

Chart 3: Housing equity held by outright owners and mortgage borrowers, £m

Source: UK Statistics Authority, CML estimates  

In Table One and Chart Three we have also indicated how housing equity would alter in 2008, on the basis of the market forecasts we made in October 2007. These included a view that house prices would be more or less stagnant this year. On this basis, the total amount of free equity held by owner-occupiers would fall by £65 billion to a little over £2.4 trillion and reduce modestly to 68% of housing wealth. This reduction in equity is focused on mortgage borrowers.

Some commentators have been more bearish in their predictions for house price movements this year. In order to give some idea of the impact of falling house prices on housing equity, a 5% reduction in prices in 2008 would reduce total free equity to 66% of housing wealth and, for mortgage borrowers, to 42% (compared to 68% and 45% respectively if prices are flat). That would simply return the position of mortgage borrowers to that seen in 1997. So even if house prices do decline, the huge amounts of wealth built up in housing will leave the majority of home-owners in a strong position.

Residential landlords 

A by-product of our analysis is that it also gives us comparable estimates for the privately rented sector. We estimate that the value of rental properties owned by households amounted to almost £500 billion at the end of last year. While buy-to-let lending had expanded to £122 billion, this represented just a quarter of the total value.   

It is difficult to read too much into these figures, as some private landlords may have commercial mortgages that dominated the sector prior to the growth of buy-to-let lending. But, within that part of the privately rented sector where landlords have taken out buy-to-let mortgages, we estimate that the share of free equity held by such landlords stood at 38% at end of 2007. This is materially lower than for owner-occupiers taking out a mortgage, in part reflecting the leveraged business model that many landlords follow, and that they are much more likely than owner-occupiers to opt for interest-only, rather than repayment, mortgages. But, unlike home-owners, the proportion of free equity held by buy-to-let landlords has been increasing progressively – if modestly – over recent years.

Conclusion 

The data presented here gives a picture of the aggregate balance sheet position of households. It shows that overall the finances of home-owning households are strong and healthy, even amongst those buying with a mortgage. We recognise that the financial position for individual households may vary. Overall, however, the strong reserves of wealth built up by home-owning households will underpin the finances of the vast majority in a variety of different circumstances.