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Mortgage money Still too tight to mention?

publication date: Mar 31, 2010
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MortgageWith the credit crunch now into its third year, we’ve seen some upturn in the housing market, and a little thawing out of the credit market. But what’s really going on in the mortgage market is rather more complicated than it looks – and there’s no doubt that lending now is nowhere near back to 2007 levels.

The Council of Mortgage Lenders’ December 2009 figures were quite positive; gross mortgage lending was up 14 per cent on the previous month, to £13.7 billion. But that’s still only a three per cent rise over December 2008 - and is still the second lowest December figure since 2001.
The January figures were even worse as lending declined to an estimated £9.1 billion, the lowest monthly total since February 2000 (£7.9billion).

CML economist, Paul Samter, says of the ‘good’ December figures, “The most likely explanation is that buyers of cheaper property wanted to complete their transactions before the end of the year, to beat the end of the stamp duty holiday.”
Regarding the figures for January, he said, “We remain in a period of uncertainty for the housing market and economy at large. The market certainly improved over the second half of last year and started 2010 in better shape than most would have predicted twelve months ago.
“More recent developments have been influenced by the end of the stamp duty holiday and are likely to foreshadow a larger than usual seasonal drop off in activity in the early part of this year. However, the Bank of England is likely to keep rates low which should continue to mitigate mortgage payment problems and help cushion borrowers from the worst of the recession.”

There’s one small ray of light when it comes to Buy To Let. In the third quarter of 2009, the CML figures show that BTL lending grew for the first time in two years, though from a low base; £2.1 billion gross lending was 10 per cent up on the second quarter of the year.

The number of products available has increased, too; Moneyfacts says the number of residential mortgage products on the market has risen from 1209 to 1624 in the last eight months.

PAUL SAMTER CMLEven so, Hannah-Mercedes Skenfield, mortgage channel manager at Moneysupermarket, points out that while the second half of the year saw a recovery from the trough, December 2009 still saw the total number of products down 27 per cent since the start of the year.

Short term deals favoured

The nature of the market has also changed, with lenders targeting short term deals. Most of the new products are two year fixes, which now account for 38 per cent of total products available; five year fixes make up only 12 per cent of total products. Rates are also markedly less favourable on the longer term deals.

Lenders are obviously using differential mortgage rates to discourage borrowers from taking up the longer term deals. That clearly means lenders believe interest rates will move upwards in the medium term – perhaps not significantly within the next eighteen months, but certainly within three or four years.

Darren Cook of Moneyfacts says that one of the big changes has been the wider differentials between different mortgage deals. Risk-based pricing is definitely here to stay. Lenders are clearly discouraging some borrowers, and encouraging others, through their setting of rates.

For instance, outside the mortgage market, Darren Cook points out that personal loan rates are now at a nine-year high, despite the record low base rate; clearly, lenders want to discourage unsecured borrowing and are only prepared to finance it at a high profit margin in view of the risk of default .
“The best position you can be in at the moment is if you own 40 per cent of your property and borrow sixty per cent,” he states, “then you can get the best rates. If you get 85 per cent loan to value, you’re really going to pay for that in terms of the interest rate, whereas five years ago there was very little difference.”

Even arrangement fees now reflect risk, with longer term and higher LTV deals seeing fees not far short of £1,000.
“The higher the amount you borrow,” Cook says, “the higher the percentage arrangement fee.”

Higher arrangement fees are also helping the banks rebuild their balance sheets. While mortgage lending creates a potential default risk, arrangement fees are pure profit. Darren Cook points out that, “fees hit your balance sheet straight away – non-interest income is therefore very valuable to banks at the moment.”

REMORTGAGING AND RATES

The CML figures show that while new mortgage lending is recovering slightly, remortgaging remains very weak. That’s partly constrained by the lack of availability of high loan to value products, particularly in the buy to let market; many home owners who secured three or five year fixes in the boom years, sometimes at over 100 per cent LTV, now don’t have enough equity to remortgage.

But with fixed rates now higher than most lenders’ standard variable rates, there’s little incentive for to remortgage. 2009 saw many borrowers on trackers and SVRs benefiting from low base rates as their mortgage rates fell, in some cases to nearly zero. The Financial Services Authority’s third quarter 2009 figures show 51 per cent in 2008.

What is worrying is that both fixed rates and most lenders’ SVRs have become disjointed from the base rate. Only a fraction of the cuts in base rate up to early 2009 were ever passed on. The England affects lenders’ rates is broken, according to Darren Cook.
He says, “We now have a situation where a couple of things are happening. The base rate is very low – so low that the bank rates have become disjointed, and you have high defaults coming in so banks have to mend their balance sheets as well, and to some extent they’re using rates to discourage some types of lending.” In any case, he says, it’s now the swaps market, not the Bank base rate, which is driving interest rates.

HANNAH SKENFIELD moneysupermarket.comThe extent of the increase in lenders’ margins is impressive. Hannah-Mercedes Skenfield says, “The average SVR deal is now 4.2 per cent above the Bank of England base rate, compared to 2.68 per cent twelve months ago.” In fact, the difference between the highest and lowest SVRs has widened, with a massive variance between the best and worst rates. On Moneyfacts, the cost of a £150k mortgage on the cheapest SVRs – Cheshire, Cheltenham & Gloucester, Lloyds TSB Scotland, Nationwide or Derbyshire – was 2.5 per cent, or £3,996.58. The same
mortgage with Chesham Building Society would be at 6.45 per cent, or a massive £9,686.30!

However, low interest rates have had a negative since they are now having to fund lending from their balance sheets and low interest rates on savings have made it difficult to attract deposits. Skenfield says, “SVRs across the board have been at record lows for months now, and the situation for lenders is obviously becoming untenable.” Controversially, the Skipton Building Society has now raised its SVR to 4.95 per cent – breaking its commitment to keep its base rates within 3 per cent of the base rate. Norwich & Peterborough has now followed suit, and more are now expected to follow. As Skenfield points out, that could cause real damage to the housing market; “Homeowners relying on the safety net of a low SVR could now find themselves stranded.”

FUTURE PROBLEMS

Darren Cook looks further into the future and speculates, “The interesting thing is what will happen when the base rate rises to say 2.5 per cent – will margins stay the same?” If lenders continue to prioritise rebuilding their balance sheets, rather than lending at market leading rates, many borrowers might see a very significant increase in their mortgage costs.
He believes banks are still getting their houses in order after the crisis of 2007. “It’s going to take a couple of years to repair balance sheets,” he says; “we’re only half way through the process.”

Darren Cook worries that some borrowers could find themselves in trouble if interest rates rise. “There’s no problem with negative equity as long as you can make repayments,” he says. cent in the medium term, some borrowers will find they are being squeezed, particularly after ten months of low rates.
“Ten months is long enough for people to get used to the increased disposable income. I know some people have been perhaps saving the money in a high interest account, but if they’ve been spending it, SVRs of seven, eight or even nine per cent could be a killer.”

DARREN COOK MoneyfactsThat could be bad news for the housing market. And there’s another potential problem – the fact that first time buyers are still finding life very difficult, owing to the lack of high loan to value mortgage products. Hannah-Mercedes Skenfield says, “First-time buyers will struggle,” as lenders are keeping a tight rein on credit.

The number of 95 per cent loan to value products fell by three-quarters during 2009, she says, giving first time buyers little choice. “Lenders have been extremely reluctant to open their purse strings a little, for fear of increasing their book of bad debt. This meant that the market was dominated by rather tepid products with low LTVs” – good for those with large amounts of equity in their property, but not helpful for first time buyers.

That means most first time buyers are borrowing significant amounts from their parents – with an average £29,000 deposit, an option obviously not available to everyone. Until this changes, it’s difficult to see the property market moving.

BUY TO LET

Buy To Let, on the other market remains subdued compared to 2007. Darren Cook says, “It’s a higher risk than residential and a different kind of risk, as well, so it’s behaving similarly to business lending.” Lenders have remained cautious.

However, while several lenders stopped operating in the BTL market in 2008, there are now some new entrants coming to the sector. Bank of China, for instance, is now offering BTL mortgages, though only in selected metropolitan areas, and with tight credit terms and policies.

Last year saw mortgage brokers and IFAs being cold-shouldered as lenders took their business in-house. Differential pricing let lenders undercut brokers, and allowed branches to increase their share of lending to nearly 60 percent of the market. Darren Cook explains why. “Lenders were using the squeeze on brokers to control the level of lending; by making broker products uncompetitive they were able to turn the taps off. Now the tap’s been turned back on again and the bottlenecks aren’t as bad as they were.”

So mortgage brokers are back in from the cold – though with a much smaller percentage of the market. Their share of total mortgage business is down from 49 per cent in May 2008 to 23 per cent now – but at least broker rates are now competitive. Paragon Mortgages’ FACT Index showed advisers in upbeat mood, with 55 per cent of brokers expecting to see an increase in business in the last quarter of 2009.

JOHN HERON Paragon MortgagesJohn Heron, Managing Director of Paragon Mortgages, says, “The sense of pessimism that surrounded the market in 2008 finally appears to be dissipating.”

Some areas of the market are not recovering, though. Self-certification mortgages seem to have disappeared, causing great pain among the self eimployed, and there have been suggestions that they could be banned – though the CML has been arguing strongly against this. At the same time, the credit quality demanded by many lenders appears to have increased.

Certainly there has been no return to the sort of behaviour we saw in 2006-7, when lenders such as Northern Rock were competing aggressively for market share. Credit has loosened a little, but it is still fairly tight – something that Darren Cook considers a major difference from the early 1990s recession. “In the 1990s we had a recession without a credit crunch, with high interest rates but also a high appetite to lend,” he says. “Now, what we have are low rates, but no appetite at all for lending."