Lenders should proceed with caution

Although business is booming, lenders should not ignore the dangers of overstretching borrowers because conditions can change rapidly as we have seen in the US, says Frank Eve

I read with interest the figures released by the Council of Mortgage Lenders on gross lending for January.

We hit yet another high with 26.8bn of lending. The rate of growth in terms of lending and house price inflation shows no sign of abating and this means there is a continuing period of exceptional opportunity for all those involved in the mortgage market.

I am often asked whether I believe this boom in lending can continue. We have seen from afar the problems in the US mortgage market, where many sub-prime lenders are facing difficulties.

HSBC hit the news recently for needing to set a bad debt reserve of 5.47bn because of higher interest rates and rising defaults in the US. UK borrowers are already stretched and interest rates are also on a gentle rise, so are we heading the same way as the US?

Conditions in the UK are still benign. The recent Bank of England base rate rises have not had any significant effect on consumer behaviour and the economy still seems to be buoyant.

One of the most significant reasons for this is the strength of the pound and London’s position as the financial centre of a fast growing global economy. While London and the UK remain at the centre of global investment, the growth in lending and house prices can continue. However, there are a number of fundamentals that need to remain in place for this situation to persist.

First, consider the strength of sterling. The UK trade deficit last year – the difference between what we sell to the rest of the world compared with what they sell to us – was 84.3bn.

This does not matter as long as we can finance the difference. Let’s face it, the US has a deficit of 396bn and it manages it. We finance our deficit by the inflows of capital from overseas investment. While the rest of the world sees the UK as a great place to invest, the pound will continue to be strong.

Then there are interest rates. With inflation set to fall later this year, BoE base rate should rise no more than another 25 basis points. This increase can be shouldered by most borrowers and will not deter the average investor, although it may make life difficult for first-time buyers.

Finally, we should look at demand. With over 300,000 immigrants from Poland alone applying for the UK’s worker registration scheme between May 2004 and September 2006 we will not be short of tenants and mortgage applicants for the foreseeable future. Demographics also show that single occupancy is on the increase and demand for housing will continue to be strong.

As we have seen in the US, conditions can change rapidly and although the boom in lending looks set to continue lenders should not ignore the risks and dangers of overstretching borrowers. There is a sea of global investment heading our way. Let’s hope we can cope with the consequences and even more importantly that the tide does not suddenly turn.