Recently, a director of the Financial Services Authority (FSA) told a Treasury committee that, “There is a ticking time bomb that has been created over the last 20 years.” He is referring to the Interest Only Mortgage (IOM). Of the eleven million or so mortgages in the UK nearly 40% are IOM. Before the end of this decade around one and a half million will become due for repayment. Now for the scary bit – only one person in five has any sort of repayment plan.
The FSA plans to change things next year. No-one knows what the final effect will be but a quick glance over what is about to come into being does not offer much hope. For a start there are going to be age limits. Anyone over fifty could be in for ‘interesting times’. As Treasury member Michael Fallon says, “There are an awful lot of people in their late 50s … who are not going to be able to remortgage.” This could well start an avalanche of forced selling.
Another important factor is trying to forecast how long these almost zero base rates will go on for. The Bank of England (BoE) cannot keep the present rates forever and must be constantly looking over its shoulder wondering when inflation is going to rear its ugly head. When this happens, and it will, the BoE will have to raise interest rates quickly to combat the threat. The trouble is we just do not know when this will happen.
Likewise if the American economy recovery is out of sync with the British one then this could cause problems. There is an argument to be had which says that due to the fact US housing has already undergone a big correction then the US may be back on track before the UK. If this is true then the Federal Reserve (Fed) will begin to up US rates – when this happens then the rest of the world usually follows. Obviously, this would include the UK because, if the BoE did not try to align with America then there could be a run on Sterling which would mean higher inflation thus increasing the price of imported goods and higher borrowing costs for the government.
More than a few people would disagree with this, citing the example of Japan where rates have been around zero for a couple of decades now. Despite the Japanese government pumping billions into the economy nothing has happened except that the debt burden in 230% of GDP with property prices back to where they were nearly thirty years ago. Does the UK really want to end up in the same situation? I would hope not and that the BoE will allow the markets to take their natural course. However, I do not see this happening and so I can see that property will stay at stupid levels and this, in the long run, will cause further problems for the UK.
Only recently, it has been made public that the banks have now got to take into account GBP40 billion in undeclared losses which is another reason they are not lending as much as they should or could. Also, as stated before, it is hard for the banks to make loans when the price of a house no longer is in tune with the average salary.
Given the fact that interest rates are almost at zero there is only one way for them to go now. UK property prices and people’s earnings will not remain disconnected forever. Even if you are not affected by mortgage rates the yield on an investment property, such as Buy-to-Let (BtL), will be a concern even if it is nothing to get overly excited about at the moment. However, the way house prices go will be important to your investment decision.
As soon as investment yields go south, there will be a deluge of sellers entering the UK marketplace and, if interest rates spike quickly, then these will be joined by the ordinary property owners as well. Also, just to throw them into the mix, the interest-only mortgage people will be joining the fray. If the market stumbles or tumbles then everyone will be affected.
It does not take a rocket scientist to figure out that the UK property market has been more than a tad affected by central bank interference. Economic historians will tell you that there is always a natural correction, certain policies may be able to delay them but they will always win out in the long run. This is what has happened at the moment. What should have happened already has just been put back. It is impossible to argue with market forces.
If you are thinking of selling a property in the UK then I would do so soon. If you are considering a purchase I would wait a while. A good way of looking at things is the UK house price to earnings ratio. Nationwide announce this every month and it is a great indicator as to how things are looking and whether someone can afford to buy a property or not.
As things stand now, the average UK property is slightly over five times the mean wage/salary. The long term average is a multiple of four. The implication of this is that prices are 20% higher than they should be. Please remember we are talking about averages here. Markets tend to overreact when things are good and when they are bad. If you look at what happened in the 1990’s property crash then they reached the nadir of three times earnings. The inference here is that property prices could drop by as much as 40% as it is unlikely that salaries will go up by leaps and bounds in the near future.
It is almost impossible to pick a high or a low of any market but if UK property prices fell by over 20% then things will start to look good. If it is by more than 30% there will be some real bargains out there,
|The above data and research was compiled from sources believed to be reliable. However, neither MBMG International Ltd nor its officers can accept any liability for any errors or omissions in the above article nor bear any responsibility for any losses achieved as a result of any actions taken or not taken as a consequence of reading the above article. For more information please contact Graham Macdonald on [email protected]|