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HBOS predicts flat housing market ahead

HBOS predicts a flat housing market in 2006, with modest nominal house growth and no change in real terms.

In its 2006 forecast, HBOS says low, single digit, growth is expected to be the norm, and UK house prices are forecast to rise by 3%, broadly in line with the predicted rise in retail price inflation. Property transactions in England and Wales are projected to increase from 1.5 million in 2005 to 1.6 million in 2006 following a 16% fall this year from 2004’s 1.8 million.

House price inflation looks likely to rise further in early 2006 before easing significantly later in the year. The annual rate of house price inflation is expected to increase during the first half of 2006, potentially reaching a peak of 7% to 8% mid year as modest monthly rises next year compare with broadly flat prices in the first six months of 2005. The annual rate is subsequently expected to fall as prices rise at a markedly slower pace than in the second half of 2005.

Economic fundamentals remain sound. Continuing economic growth, the high level of employment which has risen to a record level of 28.81 million despite the slowdown in economic growth over the past year – robust earnings growth, and the prospect of further interest rate cuts are all likely to support a healthy level of housing demand during the coming year.

A number of factors are expected to prevent a renewed surge in house prices and activity. Both council tax and utility bills are expected to rise by well above inflation in 2006, causing non-mortgage related housing costs to rise from 66% of total housing costs in 2005 to around 70% in 2006. This increase will more than offset lower mortgage rates. A number of major power suppliers have already implemented double digit increases for gas and electricity for the coming year, while the Local Government Association has warned that council tax bills may need to rise by 10% next April. In addition, the ongoing historically high level of house prices relative to average earnings is expected to curb housing demand.

HBOS expects earnings growth to outstrip house price growth in 2006. Average earnings are predicted to rise by 4.5% in 2006. As earnings growth outpaces house price inflation, the ratio of house prices to earnings will ease from a peak of 5.6 in mid 2004 to 5.4 at the end of 2006. This reduction will make it slightly easier for first-time buyers to get onto the housing ladder.

House price slowdown in the north of England looks set to continue next year. The annual rate of house price inflation has slowed significantly in all the regions of the UK over the past 12 months. It is now in single figures with the exception of Wales and Northern Ireland. The slowdown in house prices outside southern England is expected to continue during 2006 as affordability becomes an increasing issue for more potential homebuyers.


HBOS says it expects to see some signs of modest recovery in the South and the Midlands during 2006. House prices, however, remain historically high relative to average earnings throughout these parts of the UK, a factor that will continue to curb housing demand and prevent a marked pick-up in prices.

The pricing variation between regions is likely to compress for the third successive year. The biggest gains are forecast for Scotland (7%) and Northern Ireland (5%) where prices are lowest in relation to earnings. East Anglia (0%) and the South-West (1%) are expected to record the smallest price gains.

These increases should result in average house prices in the south being 1.5 times as high as in the north at the end of 2006 compared with 1.6 at the end of 2005. The north/south divide has narrowed substantially since reaching a peak of 2.2 in mid 2002. Taking a longer historical persepective, the north/south divide would still be slightly wider than 10 years’ ago (1.4 in 1996 Q4), but below the 1.7 average over the past 20 years.

Higher City bonuses than in previous years are expected in the New Year. This will boost demand at the upper end of the London housing market. This, however, is a very small segment of the capital’s housing market. The three London boroughs with the highest average prices City, Westminster and Kensington and Chelsea account for only 4% of the total Greater London owner-occupied housing stock.

As buyers hunt for bargains, towns recording the biggest price rises are likely to be close to major conurbations. Specifically, towns with house prices below regional averages are most likely to attract the attention of bargain hunters. The following towns are expected to deliver the biggest price rises next year: Clydebank, Renfrew, Airdrie and Wishaw (all in Strathclyde) and Nelson and Burnley in the North-West. All these towns currently have an average house price that is either below, or just above, 100,000. There are now only 11 towns out of the almost 500 surveyed across the UK where the average price is below 100,000.


Buyers have been putting down bigger deposits than in previous cycles. 81% of all new borrowers took out a mortgage of less than 90% of the house price during the first half of 2005, according to the Council of Mortgage Lenders. This was significantly lower than in 1989 and 1990 when 56% of new borrowers took out a mortgage of less than 90% of the house price.

But there will be far fewer 100% loans in 2006 than in the past. The number of borrowers taking out 100% loans has remained consistently low over the past few years, comprising only 5% of new borrowers in first half of 2005 compared with 22% in 1990.

Arrears and possessions are likely to remain low. The numbers of repossessions and cases of mortgage arrears both increased in the first half of this year, according to the CML. Both, however, remain at extremely low levels by historic standards. In line with the industry, nevertheless, HBOS expects a modest rise in arrears and possessions during 2006.

The mortgage market is expected to be broadly stable in 2006 following a modest decline in 2005. Gross lending is predicted to total 290bn next year compared with 284bn in 2005. Net lending is expected to remain around 90bn.

The shape of the mortgage market will be similar. In particular, HBOS says it expects the proportion of first-time buyers to increase modestly as affordability improves. Remortgage activity estimated at 45% of gross lending in 2005 – is expected to remain close to the same level in 2006.

The UK economy is forecast to grow by 2.2% in 2006. Overall, GDP is estimated to have increased by 1.6% in 2005 with the UK economy expected to record its sixth successive quarter of below long-term average growth in 2005Q4. Growth is forecast to pick up next year, but we expect GDP growth at 2.2% – to remain below the UK’s long-term average rate of 2.5%.

Further modest rises in unemployment are likely in 2006. Unemployment has risen steadily during 2005, reflecting the economic slowdown. The increase, however, has been very modest with the claimant count increasing by an average of 7,900 a month since January. Further rises in unemployment are expected in 2006, but these increases are again likely to be modest with the claimant count rising from 900,000 at the end of 2005 to around one million at the end of 2006. Accordingly, unemployment will remain very low in the context of the past 25 years.

Consumer spending growth is set to remain well below the pace recorded in recent years, at 2.0% in 2006, following an increase of 1.8% in 2005. During the five years between 1999 and 2004, consumer spending growth averaged 3.2% per annum.

The saving ratio is expected to increase from 5.1% in 2005 Q4 to 5.5% in 2006 Q4 as spending rises more slowly than income growth for a second successive year. Despite this increase, the saving ratio is set to remain well below the 7.9% average over the past 40 years.

Inflation is expected to remain within the 2.5-3% range during 2006 with the high level of oil prices this year failing to cause a rise in inflationary expectations.

Base rates are likely to fall further in 2006. Further evidence of below trend economic activity, and confirmation that the rise in oil prices is not raising inflationary prospects in the medium term, are likely to trigger at least one 25 basis points reduction next year.


Martin Ellis, chief economist for HBOS, says: “The UK housing market is set for a period of broad stability with house prices forecast to rise by 3%, broadly in line with the predicted rise in retail price inflation. Low, single digit, growth is expected to be the norm across most of the country.

The cost of owning a home will increase driven, in particular, by bigger council tax and utility bills. Non-mortgage related housing bills could account for 70% of the cost of owning a home next year.

Continuing economic growth, the high level of employment, robust earnings increases and the prospect of further interest rate cuts will support housing demand during the coming year.”

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