CML publishes updated mortgage and housing market forecasts
Published: 1 June 2011 | Author: Bernard Clarke
Today (1 June), we publish an updated assessment of prospects for the mortgage and housing markets. For the first time since the downturn, we have extended our forecast horizon beyond the current calendar year to the end of 2012, in the light of a more stable forecasting environment. Our forecasts assume hesitant economic growth for the rest of 2011, as the pace of fiscal tightening intensifies and households suffer an ongoing contraction in real incomes, but a moderately more positive backdrop as we go into next year.
While inflationary pressures look set to persist for some while, we believe that uncertainty about the resilience of consumer spending and the limited evidence of upward drift in pay settlements should allow the Bank of England to maintain an expansionary monetary policy stance throughout the forecast period. So, it now seems probable that the base rate will remain unchanged at its current level of 0.5% for most of 2011, before a modest progressive tightening that continues through 2012. The prospect of a gentler upward profile for interest rates significantly mitigates the adverse impact on household budgets of weak growth in incomes, and this will help borrowers keep up with their mortgage payments.
The key messages behind our forecasts are:
- The UK economy is experiencing a weak and patchy recovery. We are at a difficult juncture, with households suffering a fall in real incomes as a result of consumer price pressures and the accelerated pace of fiscal cuts this year.
- Lenders appear to have made good early progress in repaying the funding advanced through official support schemes and large-scale refinancing of wholesale funding. The availability of credit to support mortgage lending remains constrained, but has eased a little.
- The factors dragging down household confidence point to subdued demand for house purchase loans. Property transactions look set to remain at the low levels of the past few years.
- Remortgaging activity has revived in recent months, and demand may build over the next 18 months. However, the prospect of interest rates staying low for longer dilutes the precautionary motive to remortgage and, as a result, we are not expecting much further increase in the near-term.
- Overall, then, the outlook is for activity in the housing and mortgage markets to remain stable over the forecast period. Buy-to-let seems likely to progress positively relative to the overall market, reflecting strong rental demand.
- Despite the pressure on household finances, we expect the vast majority of households to keep up with their mortgage payments, helped by a relatively gentle trajectory for interest rates. Nevertheless, arrears and possessions are set to rise and to remain at higher levels this year and next.
Table One: CML forecasts
|2008||2009||2010||2011 forecast||2012 forecast|
|Residential property transactions, UK, 000s||901||859||886||
|Gross advances, £bn||253||143||136||140 (135)||150|
|Net advances, £bn||40||12||8||9 (6)||12|
|Arrears, 2.5% or more of outstanding balance at end period:|
|% of all mortgages||1.57||1.72||1.54||1.58||1.58|
|Possessions in period:|
|% of all mortgages||0.34||0.42||0.32||0.35||0.40|
The aftermath of the global financial crisis continues to have a pronounced impact on mortgage and housing markets.
This year and next, lenders need to re-finance large amounts of existing wholesale borrowing and repay much of the funding advanced through official support schemes. However, the prospects of them being able to do this appear to have improved. There was good progress in the early months of 2011, and signs of a degree of resilience in the face of financial market volatility triggered by ongoing difficulties in a number of eurozone countries.
Lenders also continue to strive to reduce their dependence on wholesale funding, for example by increasing their holdings of retail savings. But there is limited growth in retail deposits, as pressure on household incomes reduces the capacity to save. Retail deposits grew by just £34 billion in the year to March, half the level of a year earlier. Competition for retail funds is already intense, and the situation risks becoming still more competitive with the re-launch by National Savings and Investments of its index-linked savings products.
Although recent Bank of England credit conditions surveys indicate an ongoing improvement in credit availability, the underlying position remains challenging. Under such conditions, lenders will continue to have only a modest risk appetite, and this will limit lending at high loan-to-value (LTV) ratios. Lenders’ caution is understandable in the uncertain economic environment. It is also being reinforced by the higher capital requirements that low-deposit loans entail and conservative lending practices that are being entrenched by the supervision of the Financial Services Authority (FSA) and the uncertain outcome of its ongoing mortgage market review.
Nevertheless, there have been signs over recent months of increased competition - and a narrowing of mortgage spreads - at lower LTV ratios, and a greater range of higher LTV products. While the latter will not necessarily show through fully or immediately in actual lending volumes, it is nevertheless a positive development.
This modest improvement in credit availability does not alter the uncertainty in the wider UK economy, associated with the poor state of household finances.
Recent fiscal changes will exacerbate the squeeze on real take-home pay, already being seen as consumer price inflation continues to outweigh earnings growth. The Bank of England’s May Inflation Report suggests that consumer price inflation may reach 5% later this year and, although then easing back, stick above its 2% target throughout 2012.
With the pace of public spending cuts intensifying this year, there have been predictable knock-on consequences for household confidence which, according to April’s GfK NOP report, hit historical lows. While May’s survey revealed a surprise jump – perhaps associated with the royal wedding and extended bank holidays - the appetite to make major purchases remains subdued, with obvious implications for house purchase intentions.
Lenders have been reporting weak demand for house purchase loans for several quarters, and we expect this to continue over the short term.
This suggests that, away from London and the south east, we face a period of soft house prices. We do not foresee a sharp fall in prices, in the absence of a significantly higher volume of forced sales. Moreover, with a modest recovery in household incomes anticipated next year, the housing market should develop a more positive tone in 2012.
Housing transactions have, of course, fallen sharply since the credit crunch, averaging less than 900,000 annually over the past three years. Cash-financed sales have been more resilient over this period, however, and have therefore increased as a proportion to about a third of property sales. Assuming that this continues to be the case, overall activity is likely to be at broadly similar levels this year and next. We expect the number of transactions to dip to 840,000 this year, before climbing modestly in 2012. Our forecast is consistent with mortgage-financed sales returning to about 50,000 per month in 2012.
With respect to remortgaging, there has been relatively little incentive for buyers to rush to take advantage of existing fixed-rate deals. Borrowers already on attractively priced standard variable rates have little incentive to change. And with lending criteria being relaxed only gradually, many of those borrowers who would like to switch in order to pay a lower rate do not have enough equity in their property to meet the loan criteria.
Expectations of rising interest rates have recently pushed remortgaging activity to its highest level for more than two years, but this upturn has been relatively modest and from a low base. If, as seems likely, a precautionary motive has driven much of this activity, then remortgage demand may temporarily level off as confidence grows that interest rates will stay at historically low levels for longer.
Arrears and possessions
The combination of strong consumer price inflation, subdued earnings growth and fiscal cuts, will undermine the financial position of many households. However, on a more positive note, employment figures have been better than expected in recent months. And while there is uncertainty about the extent and timing of public sector job losses, recent trends support the view that private sector job creation will broadly offset losses in the public sector in 2011, and that the jobs situation will subsequently improve.
For the time being, however, the fragility of the household sector suggests a gentler upward trajectory for UK interest rates than we were expecting at the turn of the year, and so a smaller adverse effect on debt-servicing costs.
As a result, we have not felt it appropriate to alter our previous forecast for 2011, which already featured a deterioration to 40,000 repossessions and 180,000 arrears cases of 2.5% or more of the mortgage balance by the end of the year.
Lenders will continue to work with borrowers, debt advisers and the government to manage arrears but, in a less positive economic environment, there will inevitably be cases where it is not possible to recover the situation, and where possession remains the only realistic option. The FSA has recently expressed concerns that "excessive" forbearance may be storing up future problems, and lenders will also need to be mindful of this going forwards.
Interest rate developments will affect the ability and speed with which borrowers are able to restore their finances and also the flow of arrears cases through to possession. Although we do not envisage a further deterioration in the overall magnitude of arrears next year, possessions may continue to nudge upwards in response to higher interest rates and stick at higher levels beyond the forecast period.
The re-balancing of the UK economy was always going to mark a difficult and uncertain transition for households. Inflationary pressures are adding to the financial pressures many are experiencing, and reinforcing anaemic economic growth in the short-term.
But the flip side is that the Bank of England should be able to maintain low interest rates for longer, and so provide material help for those having to service debts. The prospect of low but relatively stable levels of activity in the housing and mortgage markets over the next 18 months is an unexciting one, but by no means a negative outturn given the adjustments being made in the wider economy.