A comprehensive look at the UK’s Housing Market
deVere Mortgages is pleased to announce that it will be publishing an overview of the UK housing market every 6 months, providing insights into the industry for investors. The reports, titled “House View”, will be concise yet detailed to provide our clients with the necessary information for them to make the best strategic decisions.
The reports will be split into relevant categories that will analyse the different areas of the housing market and explain their implications. We will examine the state of mortgages in particular detail too, explaining any recent activity which may have caused significant changes within this area.
Introduction – “Low interest rates and a willingness to lend keeping the housing market competitive.”
Despite a pull-back in global credit markets in recent months, UK lenders remain confident lending against UK property resulting in a healthy and competitive mortgage market.
This is helped in no small part by the Bank of England’s clear reluctance to raise interest rates, providing reassurance to Banks and Building Societies. Further stability is being fuelled by the Bank of England’s ability to regulate lenders.
House prices across the UK reflect demand and remain high, driven not only by low interest rates and a shortage of new housing stock but by government policies such as the Right To Buy scheme that provide tax breaks to buyers and foreign house buying at the luxury end of the market which raises house prices in neighbouring districts.
The South East of England housing market is dominant in the UK economy and demand and supply metrics in the London and Home Counties look particularly over-stretched on key affordability metrics that compare house prices and mortgage affordability with earnings.
While low interest rates and a willingness to lend are keeping the housing market competitive and healthy the cost of housing measured against earnings is expensive relative to the markets’ history and this is anticipated to persist throughout 2016.
A focus on supply and demand – “the major driver of high house prices.”
Like every commodity, UK house prices respond to changes in demand and supply.
Affecting the demand for housing is the availability of mortgage finance, wage growth, population growth and government subsidies.
Affecting the supply are planning restrictions, public transport links, the willingness of developers themselves to build, the availability of builders and government policies including those concerning green belt.
In the short to medium term, there seems little connection between changes in demand and changes in supply. While the ultra-low interest rates since the 2008 credit crunch have helped spur demand for house purchases, the higher house prices that have resulted have had little impact on the number of new homes being built.
We can therefore call the supply of UK housing ‘price in-elastic’, with high demand and a lack of supply to keep up with that demand being the major driver of high house prices.
Recent UK house price trends – “house price inflation accelerated during 2015.”
The following data contained within this report is from the Nationwide House Price Index (HPI) – rather than the Halifax equivalent data series simply because Nationwide’s HPI comes with two useful affordability indices.
According to the data there are two recent house price trends: firmness in London and the South East at the end of 2015 and flat to falling house prices the further removed from the South East.
UK average house price inflation accelerated during 2015, with the fourth quarter seeing a national average increase of 1.5% quarter-on-quarter (seasonally adjusted). London dominated with a gain of 3.6%, with a spill-over effect driving more modest gains in the home counties. However, Yorkshire & Humberside, Scotland and Wales all recorded slight falls over the quarter.
London house prices come with a significant health warning with the luxury end of the market now dominated by overseas buyers who are price-insensitive and cash rich.
Here, house prices can be compared to New York or Paris where the desire to own a bricks and mortar asset in a legally safe jurisdiction may trump any concern over prices paid.
It is also note-worthy that foreign buying is increasingly being seen in university towns throughout Britain including Manchester.
Interest rates – “few investors see ‘threat’ of inflation.”
At the 9th December 2015 meeting of the monetary policy committee (MPC) of the Bank of England, committee members voted 8-1 to keep the key bank rate unchanged at 0.5%.
The sterling futures market is currently not expecting a rate rise until early 2017 at the earliest.
There seems little reason why the MPC should become more hawkish just because the US Fed raised interest rates a week later. The move was widely expected and has been interpreted both as an attempt to pre-empt US domestic inflation and as an attempt to ‘normalise’ US monetary policy.
The UK suffers from neither incipient inflation, with CPI showing a small negative year-on-year reading of -0.1% as recently as October, nor from a central bank anxious to return to ‘normal’ interest rate levels for its own sake.
UK GDP growth is steady, at around 2.5% pa, but at the moment is not generating much wage growth – despite strong employment growth – or demand-led inflation. This partly reflects the growing presence of older people in the workforce, who until recently might have retired as well as strong immigration.
Indeed, the Bank of England’s current forecast for wage growth in 2016 of 3.75% looks very optimistic.
The docility of the long end of the gilt yield curve over the last 12 months suggests few investors take seriously a ‘threat’ of inflation.
Mortgages – “arrears and repossessions at lowest level since 2004.”
The Bank of England has recently introduced a new set of macro prudential measures to help limit bank lending to the housing market. Limits on the size of mortgages relative to income for the very wealthy, and other measures, are designed to complement interest rate policy.
This is intended to meet concern that ultra-low interest rates may be encouraging lenders to extend mortgages to weak borrowers. It is too early to tell if these measures are impacting on bank lending.
The fact remains, though, that Mortgage providers are understandably delighted at the thought of low interest rates continuing.
The Council of Mortgage Lenders (CML), in its 2016 report published on 17 December 2015, forecasts the first UK rate hike in the second half of 2016 but does not believe this will affect the market. It notes that arrears and repossessions are at their lowest levels since 2004 and are still on an improving trend.
However, the CML predicts difficulties in the Buy To Let (BTL) market due to changes in income tax and stamp duty legislation along with the possibility of stricter lending standards being enforced by the government and/or the Bank of England.
That said, the BTL sector is relatively small. According to CML estimates it will account for perhaps 9% of all property transactions this year and just 16% of all mortgage transactions by value.
Mortgage affordability – “no particular problem for first time buyer mortgage affordability.”
A key measure of affordability is the first time buyer’s index, which is taken to be the percentage of take home pay that a first time buyer must pay on their mortgage.
This shows the ability to repay a mortgage, a key factor in bringing new entrants into the housing market and providing liquidity throughout the market.
The Nationwide first time affordability measure paints a surprisingly reassuring picture, thanks to the very low interest rates of recent years.
Outside London and the Home Counties there appears to be no particular problem regarding first time buyer mortgage affordability even if house prices are high relative to incomes.
However, given that London and the South East drive the UK economy any reversal in their housing markets could quickly spread to the rest of the country.
The long term average first time buyer’s mortgage repayments are equivalent to 33.3% of take home pay, using data going back to 1983. Today’s figure is barely different, at 34.4% for Q3 2015, and indeed showing a downward trend in recent years.
Interestingly, if we take London and the Home Counties out of the data we see no regions that are currently above their long term average. Meanwhile London stands at 66.3%, well above its long term average of 50.3%, perhaps reflecting the distortions created by the luxury sector.
However, this data is no cause for complacency given that interest rates are likely to rise at some stage.
House price to earnings ratio – “All regions above their long term averages.”
The Nationwide first time buyer gross house price to earnings ratio goes back to 1983. This shows the ratio of house prices to pre-tax earnings of first time buyers.
In the pre-1986 Big Bang days Building Societies were cautious lenders and by limiting mortgages to around three times income entry-level house prices tended to follow suit.
At the end of 2015 the ratio for the UK as a whole was 5.2 times, against a long term average going back to 1983 of 3.5 times.
London stands at 10.1 times, against its long term average of 5.1, while all other regions of the UK are above their own long term averages.
Summary – “housing market – affordable, buoyant and investable.”
The housing market is subject to the same demand and supply metric as every other commodity. What’s unique about the housing market is that, whilst interest rates remain low and mortgages are therefore – on paper – more affordable, a shortage of housing stock is just one of several factors that are forcing house prices up.
It could be argued that house prices are correctly priced in the current low interest rate environment. However, while interest rates are likely to remain very low for some time to come, eventually they must surely rise and today’s prices may then look stretched with London and South East most vulnerable.
Fortunately, there is little reason to expect a return, over the next few years, to the interest rate levels that we knew before the credit crunch.
For us at deVere and for our clients, the housing market remains buoyant, affordable and investable.
In London and the South East house prices remain out of kilter with the rest of the country. However, investment in property in these regions, given the continuing escalation of prices, remains a viable long term investment.