Housing market stabilising

As many of you are aware, we have been following the developments in housing markets quite closely, particularly in the UK.  The housing markets were both a signpost and then a symptom that helped to drive inflation lower and brought the banking system close to collapse. For the UK, the chart we have focused on the most is the use of mortgage approvals as a lead indicator for the strength of the housing market, and therefore the economy (see here). This relationship appears to have broken down, and it is important to explore why.

We are debt investors, so we are used to analysing whether companies’ earnings are sufficient to service their debt. With regard to housing, similar methodologies can be employed to determine the health of the housing market and the consumer. The simplest method is to plot the average house price versus average interest rate charged so that we can derive the cost of servicing a mortgage.  We can then use average income to derive a guide to how cheap housing is. This chart shows how affordable housing is on a debt servicing basis.

While this is a good guide, the banks’ ability and willingness to lend has been greatly diminished, and availability of financing for new purchases is restricted.  Mortgage approvals for new purchases therefore remain moribund. This new reality is not great news for house prices, housing activity, and the economy.

However, if an asset price is cheap versus the cost of financing, then the market can still stabilise in the absence of the leveraged buyer. Firstly, cash buyers or the less stretched borrowers will enter the market.  Secondly, individuals who own a property will logically decide not to sell as their housing is historically cheap to finance. Data on the first is hard to source and is mainly anecdotal (eg euro based individuals buying cheap sterling property).  The second is easier to follow – the RICS sales to stock ratio is a measure of demand versus supply, and suggests a more bullish outcome for the housing market than the mortgage approvals numbers.

The consensus view seems to be that demand/supply ratios have lost their relevance because the volume of transactions is low.  We differ – to make a market you have to focus on supply and demand, and this lack of supply is fundamental and reflects the cheapness of housing on a serviceability basis. The UK housing market has traditionally been driven by  first time buyers, as reflected by the historically close correlation between mortgage approvals and house prices.  This buying power is now limited, but supply is equally limited.  New less levered buyers will step into the breach, and existing owners of property will hold on and attempt to service their historically cheap debt. Of course, higher interest rates could rapidly change the supply dynamic, but the authorities are acutely aware of this, and with inflation subdued, rate hikes still look a long way off.

Monetary policy is thankfully working in the UK.  Low rates are directly supporting the housing market, and in turn supporting the economy. Now that the housing market is showing strong signs of bottoming, one can become more relaxed that the economy can recover.  Deflation is not as likely as earlier this year, and financials look healthier.

Discuss Article

  1. Pete says:

    So, if it's all about affordability, and your index is base +2.5%, which is already a poor proxy, then surely the minute that rates start to rise (base rates or just mortgage rates) then supply will flood out and prices will drop again?

    Posted on: 20/10/09 | 12:00 am
  2. Anonymous says:

    Housing is now affordable, but is it any wonder when interest rates are 0.5%?  What about the house price to income ratio? – a mortgage does have to be paid back after all.  This ratio has barely corrected.  Surely house prices need to reach a real market clearing level and tested by a normalised cost of finance rather than the unsustainable intervention we currently have? 

    Posted on: 20/10/09 | 12:00 am
  3. Mike says:

    Does this look at financing on a variable basis or fixed?  If the former then it is very short sighted.  You can't buy a house on the basis of whether you can afford the next months mortgage payment, but just not worry about 5 and 10 years time.  If you sell when rates go up and your repayment triples then you will likely faces a capital loss as everyone else sells.  How affordable are houses based on 5-year rates say?

    Posted on: 21/10/09 | 12:00 am
  4. Michael Riddell says:

    Yes, as mentioned in penultimate paragraph, a hike in rates could severely damage the tentative recovery, and that's why it's unlikely the authorities will take the economy off life support too quickly.  Fair point that base rate + 2.5% is a bit unrealistic at this stage of the cycle, although putting in a more conservative/realistic figure of base rate + 3.5% still gives you an affordability index value of 4.4, which is better than any period since the early 1990s.

    Posted on: 21/10/09 | 12:00 am
  5. nostic says:

    ok, what about the case of the 5 million migrants previously employed in an otherwise vibrant economy based on low tax rates and high wages? surely at least half will leave as the economy becomes more and more state owned, creating a glut of housing with no tenants for the next five years or so (til the next growth engine is discovered).

    Posted on: 22/10/09 | 12:00 am
  6. longodds says:

    Does the vigilante team have any figures showing the balance in the UK between those on variable and fixed rate mortgages ,only those on variable are benefiting from lower rates.
    Re-financing is I believe proving almost impossible or possible but very expensive in terms of fees etc as the banks know they can squeeze those caught wrong side of the line.

    I've not got a mortgage but personally I feel those on fixed rates should be helped out,in that the banks/building societies should be told they cannot levy fees, other than very modest admin ones, on conversions, while the current reflating/QE persists.

    At the moment those on fixed interest loans who would normally represent the most prudent, risk averse borrowers find, through no fault of their own that they, are like every other UK citizen, are paying indirectly to bail out the banks, and paying again more directly via their mortgage arrangement as that subsidizes those benefiting from the government/B of E collapse in Bank Rate.

    In normal circumstances I would say they made the choice to go fixed and they can't have it both ways, but these circumstances are not normal.
    It's not right that those who couldn't afford to take the risk of interest rates rising, should be penalized while almost everyone else, in particular those who stretched themselves the most benefits from the emergency aid.

    Posted on: 26/10/09 | 12:00 am
  7. Anthony Doyle says:

    We have written on this very issue a number of times in the past and we do have sympathy with some of the views expressed in this article.

    Feel free to have a look at some of the blogs we have written in the past (by clicking on the archive tab). I think you will find this blog (see here) particularly interesting.

    Posted on: 27/10/09 | 12:00 am
  8. Anthony Doyle says:

    The Council of Mortgage Lenders may compile the figures you are after. We don't subscribe to the website as we tend to view the housing market from more of a macroeconomic standpoint. Alternatively, you might find this article (see here) from The Telegraph useful.

    I can understand the point you are making but ultimately the choice to enter into a fixed or variable rate mortgage lies with the individual and their own particular circumstance.

    Posted on: 27/10/09 | 12:00 am
  9. longodds says:


    appreciate you're comment.

    Read an article this morning by J Grantham which touches on this although in a US context .

     Under the para heading "Misguided,Sometimes Idiotic  Mortgage Borrowers "  he wrote
    "…… the more misguided or reckless the borrowers, the more determined the efforts to help them out….
    and  .

    .." In effect the prudent are subsidizing the very same banks that insisted in dancing off the cliff into Uncle Sam's arms or, rather , the arms of the taxpayers, many of whom rent  "

    Many yeras ago I used to do some mortgage business and it was my experience that those who took fixed interest loans were in the main either more prudent and cautious ie more risk aware or knew they had already stretched themselves to the limit to get the size of loan thewy could just afford and were therefore sensible enough to elect for fixed rates – few chose fixed rates as a " bet" on how the trend in interest rates might develop.

    TO Vigilante team. Read an interesting article in the FT by David Roche under the heading   "Why Sovereign Bond yields will explode "    any comment on that ?

    Posted on: 27/10/09 | 12:00 am
  10. Judy says:

    I’m grateful you made the post. It’s cleared the air for me.

    Posted on: 29/04/16 | 8:00 pm

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