Despite optimistic talk of a reviving housing market, the shadow of negative equity still hangs over thousands of home owners. So lenders need to understand the dynamics of price changes when planning lending strategies so they can help clients in this situation, not hinder them
You can tell things are picking up in the housing market when the tabloids lead with stories about home owners making £100 a week from their homes this year, as one did recently.
But the feel-good factor of articles on house price rises ignores the plethora of contradictory information published by those involved in the housing market on a daily basis.
While everyone might like to feel as if their house is contributing to their wealth as well as providing a home for their family, the reality is that the future is uncertain and that could have a serious impact on the mobility of UK PLC and its economic recovery.
The Treasury’s comparison of independent forecasts, published in August, illustrates the difference in predictions.
The most optimistic forecaster, Beacon Economic Forecasting, believes house prices could rise by as much as 5.8% in 2012 and 10.3% in 2013. More pessimistic forecasters such as Capital Economics say prices will fall by 2.2% this year, 7.9% next year and 5.9% in 2013.
And you don’t need to be an economics expert to understand why forecasters are in such a quandary, or why lenders are now more intent on understanding the risks associated with their lending than ever before.
One way to mitigate risk is to prepare a contingency plan for different scenarios accommodating rises and falls in negative equity, rather than subscribing to a particular forecast when there is such difference of opinion among experts.
To help lenders understand their risks and exposure, whichever prediction about house price moves turns out to be correct, we have calculated the impact on home owners of a range of positive and negative house price movements.
Currently, there are 827,000 home owners whose mortgages are larger than the value of their homes and the Council of Mortgage Lenders estimates that 326,000 39% of them are first-time buyers.
Although the problem is not as great today as it was in the early 1990s when 1.8 million households faced negative equity, relatively modest movements in house prices could have profound implications for many thousands of householders and their lenders.
HML’s analysis has found that if house prices drop by just 2.5%, more than one million properties will fall into negative equity. If prices fall by 5% the number will increase to 1.2 million and a 10% price fall will plunge 1.7 million home owners into negative equity, returning us to the dark days of the early 1990s.
But prices can rise as well as fall. A 5% house price increase will pull more than 300,000 people out of negative equity, reducing the total number to 520,653.
If values rise by 10% the number will reduce to 296,680 and a 20% increase would almost eradicate the problem , leaving just 90,646 households with negative equity.
Negative equity is not, however, a problem that is uniformly distributed throughout the country.
For example, the North-West has the highest number of borrowers with negative equity at 114,153, while the South-West has the least at 32,858.
Northern Ireland has the highest percentage of home owners with negative equity 23% and if house prices fall by 10% this number will increase to 30%. However, a 10% house price increase would reduce the figure to 16.7%.
As you might expect, negative equity affects younger home owners more dramatically than older borrowers.
The figures reveal that negative equity affects 12.6% of home owners under 30 and 12% of those between 30 and 39. If house prices fall by 10%, these figures will almost double to 24% and 23% respectively.
“Our analysis has found that if house prices drop by just 2.5% more than one million properties will fall into negative equity”
But a 10% house price increase would reduce the percentage to just one for both groups.
On the other hand, only 4.4% of borrowers in the 50 to 59 age group are in negative equity and a 10% house price increase would virtually eliminate the problem for that group.
This information could be useful for lenders to know when considering a request from the borrower to make an amendment to their mortgage.
Someone in negative equity may lose their job and not be able to find one within commuting distance of their existing home a request to the lender for the property to be rented out so the loan is serviced and the borrower is able to continue working elsewhere seems sensible, but would run contrary to most lenders’ policies without a costly switch to a buy-to-let mortgage.
Few forecasters are predicting a substantial rise in values so negative equity seems unlikely to go away soon.
Small movements in prices will continue to make a big difference to the mobility of thousands of home owners, so it’s important for lenders to understand the dynamics of the issue and feed this into their planning to ensure that borrowers in this situation are helped rather than hindered, and there are no surprises hidden in their portfolio.