The Impact of the Credit Crunch on the United
Kingdom Property Market
The credit crunch (as it has become known in the media)
is a global financial crisis that refers to a dramatic reduction in the
availability of credit such as loans and mortgages. The collapse of the
American sub prime mortgage market has kicked started this global
financial crisis. It has now impacted the world economy for six
months in areas of wholesale liquidity, national interest rates, house
prices, stock market valuations and national growth and productivity. How
has this come about?... When issuing a loan to a consumer for a
mortgage, the underlying security is based on the value of the property
and the consumers' ability to repay. However, the fall in property prices
in the United States and the exposure of unquantifiable levels of consumer
bad debts, created market uncertainty and panic. For years, banks had
resold or 'wrapped up' and packaged up mortgage debt to other lenders as
part of a large debt sale. As sub prime mortgage debt was exposed as a
riskier business then previously thought, the market could not identify
which debts were bad and which not so bad, and even worse which banks were
saddled with these bad debts. Repossessions in the USA soured in the
sub prime market causing confidence property price reductions in certain
geographic sector of the economy. The credit rating system used to
quantify individuals and business credit situation failed to identify
impact of sub mortgage debt.
Ironically, part of the main cause in the collapse in
confidence was banks and lenders historic attitude towards risk. During
the last decade or so, the seemingly infinite supply of personal credit
offered by the financial institutions (in credit cards and property loans)
gave consumers huge exposure to risk. At the same time, the excesses of
western consumers merrily borrowed too much money than they could
reasonably expect to repay in times of financial difficulty. To make
matters worse, to meet demand for financial credit, banks and mortgage
lenders borrowed money from the wholesale markets in order to offer
finance low cost mortgages to consumers. When confidence (and hence
liquidity in the money markets) evaporated, major banks such as Northern
Rock and Bear Stearns collapsed. With twenty four hour news at everyone's
fingertips, the market perception was that these type of lenders were
highly exposed to sub prime bad debt, whether it be U.S. based or
otherwise. The fact These organisations has other assets that were not
linked to riskier sub prime became over shadowed by the perception created
in headline news. Ordinary savers raced to withdraw their hard
earned savings creating bank 'runs'.
In the United Kingdom, the impact of the credit crunch
has been quite severe. The landlord buy to let market has collapsed with
the number of new purchases of buy to let investment property drastically
falling. The availability of
buy to let mortgages from lenders
(already worried about bad credit histories and falling house prices) has
strangled landlords ability to invest. For six months now, landlords have
rushed to sell their investments, that in the past decade have seen
healthy rises in value. Despite this panic, the United Kingdom rental
property market is in a stronger position relative to the United States
market. With a rising UK population, struggling first time buyers deciding
to wait and see what happens and scarcity of land for new building, the
actual volume of people choosing or having to rent is rising.
Landlord investors who have come into the market within the last three to
five years are expressing concerns regarding negative equity, particularly
in the southeast and London areas where many converted apartment blocks
have seen falls in value over recent months.
There is no doubt that the landlord market for buy to
let investments in the United Kingdom is highly exposed to the credit
crunch. However, the long term demand for rental property is still
maintaining the interest of existing landlords who have taken a longer
term view. The localised nature of the buy to let market means pockets of
investment are still attractive... Landlords are thinking about local
markets and the importance of property type, tenant demand and physical
location. In addition, accessing good transport links, local schools and a
nice neighbourhood are high in the minds of families wishing to rent. As
well as doing proper market research on where to buy, landlords must also
educate themselves with regards to regulatory rules such as the tenancy
deposit scheme and renting out houses with multiple occupancy. These
schemes are law and require assistance from letting agents and local
councils. In addition, the possible investment of a rent guarantee
insurance policy may be a prudent course of action for new landlords. This
is sometimes available with the traditional
buy to let insurance buildings
policy available from many insurance brokers and lenders. Of all these
decisions to think about, by far the most important calculation landlords
will have to do will be the return on investment - does what the rental
income of cover the cost of today's to rising mortgage? What will happen
if interest rates rise by another percentage point? If house prices crash,
what will be the impact on my investment? These basic sorts of questions
are critical in the planning stages for any new landlord.
The United Kingdom government has recently announced
(in co-operation with the bank of England) the ability for mortgage
lenders to swap their mortgage debt with rock solid government bonds. This
interventionist policy is designed to inject liquidity and restore
confidence in a beleaguered housing market. The idea does not provide any
guarantees that mortgage lenders will actually reverse their policies of
withdrawing buy to let products or increasing minimum loan to value rates.
In 2008, the number of new mortgage approvals is predicted to be half of
those approved in 2007. Mortgage lenders simply do not want to take any
risks with of first time buyers, applying for high mortgage values,
offering lower deposits on properties that require a large loan to value.
For instance, Cheltenham and Gloucester, one of the UK's largest mortgage
organisations, recently announced it as increasing its mortgage interest
rate for new customers (not passing on decreases in Bank of England
interest rate cuts and despite the injection of fifty billion pounds on
offer to the money markets). Many other high street lenders have
completely withdrawn their 100% 'headline grabbing' mortgage offers seen
in the past. It is now typical that first time buyers will require a 25%
deposit, a good credit history and a stable income. The impact of the
credit crunch is high in the minds of the monetary policy committee. Its
primary aim is to keep inflation at a target level of to 2.5%.
Unfortunately the impact of rising demand for oil, raw materials and food
from developing economies such as China and India is pushing up global
inflation. A rise in inflation could be countered with the rise in
interest rates by the MPC. However this will further damage consumers'
pockets at a time when the UK Housing market is in a very fragile and
uncertain state.
Most banks and mortgage lenders are now heavily
promoting their personal high street or savings schemes in an effort to
conserve cash. Some banks such as RBS have recently announced possible
rights issues to raise money from the stock market. The stock market has
reacted positively to these type of press announcements. This is because
it provides a level of certainty with regards to an individual
organisations financial stability. Lenders attitudes towards risk what
seems to be matched by those of consumers across the UK, who have been
tightening their belts recently. The tidal wave of daily of doom and
gloom bad news in the housing market as well as the economy in general has
almost become self fulfilling. Government tax rises, rising utility bills,
rising world commodity food prices have all helped to squeeze consumers
pockets. All this has occurred at a time when many fixed rate mortgage
borrowers have seen their 'attractive discounted rates' withdrawn from the
market by their mortgage lenders. These are typically being replaced
with less attractive higher variable rates. In short, personal disposable
income has become a big issue for families and ordinary people across the
United Kingdom.
Other property related industry has been badly affected
by the credit crunch as estate agent chains, house builders and surveyors.
Many leading UK home builders have recently announced losses and poor
financial results to the market. Many house builders have seen a slow down
in demand for new homes and an increase in local planning laws...
these planning laws aimed to regenerate 'brownfield' sites and prevent
widespread house building in areas of natural beauty. Unfortunately the
same laws are slowing down the planning applications of developments
needed to meet constant rising demand for affordable rental property from
prospective tenants. To define the end of the credit crunch period
will be very difficult indeed.
