Property storm leaves UK exposed and distorts policy: Mike Dolan

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LONDON — While financial markets have been hardest hit by this year’s interest rate shock, housing is now in the firing line.

And a housing quake would hurt many economies far more, amplifying the bond market turmoil of the past 12 months if inflation cannot be contained fast enough to allow central banks to stop tightening. in 2023.

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Overall housing activity – construction, sales, and the related demand for goods and services that accompanies housing turnover – contributes around 16-18% of gross domestic product annually in the US and Britain . That’s well over $4 trillion for the UK’s first and half trillion.

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With U.S. long-term fixed mortgage rates above 7% for the first time in 20 years and January rates more than doubling, U.S. home sales and housing starts are already feeling the pinch. heat.

And since real estate has surfed the bull bond market of low inflation and low interest rates for most of these decades – the subprime mortgage crash of 2007-2008 aside – any risk paradigm shift in this whole picture is a big concern.

Twenty years ago, after the collapse of dot.com and the stock market crash led to a surprisingly mild global recession, The Economist magazine featured an article entitled « The houses that saved the world » – concluding that the Falling mortgage rates, refinancing and shrinking home equity had offset the hit to business demand.

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But it is much less likely to come to the rescue after this year’s stock market slump, if only because interest rates are heading even higher in 2023 and many are now worried about the potential distress and delinquency in the area next year.

About 10% of global fund managers polled by Bank of America this month believe real estate in developed economies is the most likely source of another systemic credit event in the future.

And Britain, which the Bank of England says has already entered recession, is particularly vulnerable.

UK homeowners have outsized exposure to variable rate mortgages and greater vulnerability to rising unemployment make the UK market a potential outlier amid the double whammy of the Bank of England’s rate hikes and the budget cut expected this week.

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Indeed, many believe that the scale of Finance Minister Jeremy Hunt’s dramatic fiscal U-turn from September’s botched gift budget is precisely to avoid the kind of brutal BoE rate on the housing market that initially threatened.

Britain’s National Institute of Economic and Social Research think tank estimates that around 2.5million UK households on variable rate mortgages – around 10% of the total – would be hit hard by another BoE rate hike this year. next, pushing mortgage costs about 30,000 beyond month income if rates hit 5%.

This partly explains why, even though money markets still see BoE rates peaking at 4.5%, from 3% currently, clearing banks Barclays and HSBC forecast central bank terminal rates as low as 3, 5% and 3.75% respectively.

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NO HOUSING SAVIOR

Goldman Sachs chief economist Jan Hatzius and his team believe the threat of a major credit event in developed housing markets may be overstated as many mortgage holders are still on fixed-term contracts. term and there are significant buffers to home equity.

But they said Britain stands out nonetheless.

« We see a relatively greater risk of a significant rise in mortgage delinquency rates in the UK, » Goldman said this month. « This reflects the shorter duration of mortgages in the UK, our more negative economic outlook and the greater sensitivity of default rates to downturns. »

While Australia and New Zealand have higher variable mortgage rates, UK mortgage holders are also more vulnerable to rising unemployment.

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Goldman estimates that a one percentage point increase in unemployment tends to raise mortgage default rates by more than 20 basis points after a year in Britain, twice as much as the impact of 10 basis points of a similar scenario in the United States.

All of this bodes ill for UK house prices – although the forecast is still far from doomsday.

UK estate agent Knight Frank expects nationwide house prices to fall 5% next year and again in 2024, a cumulative fall of almost 10% but not bringing average prices than where they were in the middle of 2021. Looking further ahead, they see continued stagnation – with only a 1.5% cumulative gain in the five years to 2026 and prices in London virtually flat over this entire period.

NIESR economist Urvish Patel agreed with this – expecting house prices to fall over the next couple of years, but adding that « fears of house prices and of a collapse in the real estate market due to rising mortgage rates will probably not turn out to be correct ».

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The offsetting factors are that a majority will be on fixed rates, supply remains limited and stamp duties need to be reduced again, he said.

But he pointed to Bank of England research from 2019 which looked at over 30 years of data and showed that a sustained 1% rise in index-linked UK government bond yields could ultimately lead to lower prices. real estate by just under 20%.

Worryingly perhaps, 10- and 30-year indexed gilt yields were at the epicenter of September’s fiscal shock. And while they’ve since pulled back from those highs, thanks in part to BoE intervention, they’re still 2-3 percentage points higher than they were this time last year.

– The opinions expressed here are those of the author, columnist for Reuters.

(Reporting by Mike Dolan; Editing by Alex Richardson)