Lending in an age of uncertainty

Next year is going to be another tough one in the industry, according to the movers and shakers at a recent round table hosted by HML in London. The consensus was that we need more lenders to do more lending and the regulator needs to create an environment to facilitate this. By John Murray

For the past five years HML and I have been getting together at this time of the year to host a lunch for the movers and shakers of the industry. The idea is to talk about the year they’ve had and to identify the challenges. This time last year one of the big issues had been political uncertainty as the future colour of the government wasn’t going to be resolved for another six months. This year, I suggest to Adrian Coles, director-general of the Building Societies Association, the big challenge could be any number of things.

Are we facing a double dip recession? Will regulation grind the market to a halt, or will the need to refinance around £300bn borrowed under the Special Liquidity Scheme prove the big spanner in the works?

“Key for me is uncertainty though it’s no longer political uncertainty,” says Coles who represents the UK’s 49 building societies that account for around 20% of the mortgage market.

“What will be the effects of the Spending Review and cutbacks in government spending?” he says. “What impact will that have on employment?

And Brian Brodie, chief executive of HML, says that the level of unsecured debt in the market is also a concern.

“The large banks were active in terms of generating more and more unsecured lending,” he says. “That is still sitting there at the minute, and when interest rates start to go up it will have a big impact.”

Coles argues that there’s also a question about where we’re going with interest rates and inflation, which the Bank of England inflation report has just noted is again well above the 2% target.

“So we have high inflation, a potential rise in unemployment and cutbacks in public spending,” he says. Does that give us a subdued outlook for the economy? It’s certainly not a backdrop in which people are going to be encouraged to buy houses, to want mortgages or be in a position to save a great deal of money for those of us who rely on deposit-based lending.

“On the other hand there remains a latent demand for housing. We still have a population that is gradually moving into the ages at which it wants to buy housing. How are those aspirations going to be met at a time of economic recession? It has to be met by rented housing if it is not met by owner-occupied housing.”
Coles concedes that the level of owner-occupation is falling for the first time for 50 years.

“We are down from 71% at peak, as long ago as 2003, to 68% owner-occupation now in England,” he says.

The question, as he sees it, is how can we meet people’s aspirations, especially when we have regulatory uncertainty as well?

“We’ve funding uncertainty, with the problems of repaying the special emergency loans that were made in 2008,” Coles says. “With economic, funding and regulatory uncertainty it is a difficult outlook to predict and one which does not cheer you up.”

Coles started life as an economist and as the head of the BSA has the ear of the government and regulators but he is not a practitioner. For that I turn to David Finlay, intermediary business director at Barclays, which is responsible for around 12.5% of gross mortgage lending in the UK.

Prior to the lunch he was talking with just a hint of optimism about the year ahead so maybe he can cheer us up. He does not hold out too much hope for the first half of 2011 but adds that the second half of the year might see more activity.

“The impact of the austerity measures will probably settle down after the first six months and consumer confidence may return slightly,” says Finlay. “The most important thing is that life happens and people will want to move.

“But it’ll be interesting to see what we lenders do with rates as well. If we look at where swap rates are going, where we think the Bank base rate is going to go, then I think there is the opportunity to be more optimistic in the second half of the year.” Finlay says Barclays’ recent remortgage campaign called The Great Escape is part of a drive to change people’s mindsets and reinvigorate the mortgage market. The campaign has centred on the fact that there are around 700,000 people on SVRs who could be paying less.

He argues that up to now the majority opinion has been that the market has been dead and so it ends up becoming a self-fulfilling prophecy.

“We need to change our mindsets and kickstart the mortgage market,” he says.

Even so his optimism is measured.

“I’m not saying we are going to grow from a £130bn gross market to a £220bn market next year,” he says. “We’re looking around the £130bn mark this year and again £131bn to £132bn next year, which is so huge.”

Brodie agrees that it’s important to be positive but, reflecting on what Coles has been saying about all the uncertainties we’re facing, suggests that talking up the market could be difficult.

He also questions whether as an industry lenders are doing enough to get across the message that people have actually been helped.

“I know it is a term that people do not like, but even if you take sub-prime borrowers, the majority of people still live in their houses,” he says. “The industry does not get the view over that more than the majority have actually benefited by it.”

Nigel Stockton, financial services development director at Countrywide, says that from an estate agency perspective, the next three or four months look stagnant.
“We can see 12 weeks down the track because of the number of people who are putting their house up for sale, looking for a listing, and looking for a first appointment,” he says. “We can predict with a fair degree of accuracy three months ahead whether the lending guys will go with their applications. We can see that the market has probably slowed since May and it’s going to slow down for the next three or four months.

“We also think the second half of next year will be better than the first, and if overall house prices remain flat that will be a pretty good result for next year. With transactions, ideally we would like to see around 600,000 but somewhere between 550,000 and 600,000 would be okay.

“Looking at the lenders, there is no evidence to suggest they want to lend any more money, so I reckon we will be about £130bn to £135bn this year, but £145bn would be a great result,” he adds. “NatWest Intermediary Solutions and Wool-wich have both come into the remortgage market and for the first time we have been able to move people off the SVR.”

And if more lenders have a bigger appetite for the remort-gage market next year, he says it could have the potential to drive lending figures to £145bn or perhaps even £160bn.

“I don’t think it is an issue of capital any more, it is about liquidity,” he says. “Lloyds Banking Group has the capital, as do Barclays and the Royal Bank of Scotland – it is about how they choose to deploy that.”

Richard Tugwell, head of national sales at Northern Rock, the only representative of a state-owned bank at the table, isn’t so optimistic. He prefers Finlay’s gross lending estimates for 2011.

“We expect a similar figure next year,” he says. “Certainly no higher than £140bn.”

And with the Mortgage Market Review, will lending criteria become so strict that it is going to be hard for anybody other than those in a secure job with a high income to become a home owner?

That could have serious implications for housing policy and the BSA has just called for a public debate on the future shape of our mortgage market and the unintended impact that regulation might have on tenure choice and housing supply.

“The danger is that the regulator is driving a wide range of issues that the whole of society should be debating,” says Coles.

“Do we want owner-occupation to rise? Do we want people to have access to housing in the way they have had in the past? It shouldn’t just be determined by technical aspects of the Basel III responsible lending policy and affordability debates that are arcane and difficult for ordinary people to understand.

“There should be a wider debate about whether we want a society with low owner-occupation and do we want to see owner-occu-pation falling?

“Do we want people to be buying at the age of 35 rather than 25?” he adds. “There is a wider set of issues than the Financial Services Authority has admitted to in its consultation over the past year. That is the point we were trying to make.”

Finlay asks if that is what we want, how are we going to deal with people unable to fulfil their home-ownership aspirations?

Coles is also concerned about the impact of the multiple layers of new regulation, not just the MMR.

He cites the Building Society Source Book, Basel III and the new demands for capital, liquidity and the fact that you can only invest in liquid assets now that yield 0.5% at the Bank.

“It’s the impact of all these changes that is worrying,” Coles says, citing the impact of centralising regulation at the Bank, the destruction of the FSA and the creation of a new set of regulatory bodies over the next two or three years.

“Everything is up in the air. That’s why I referred earlier to regulatory uncertainty inhibiting firms from doing what they might want to do in the market.”
Whatever the reason Stockton says he’s definitely seeing a structural shift in housing tenure.

“We run the biggest lettings business in the UK,” he says. “Stock is at an all-time low and transactions are at an all time high. Whenever you get a property it goes. Within certain areas it can go within hours.”

Where lettings are concerned, Stockton says Countrywide is breaking records in Q3 and 2010.

“We’re witnessing a structural shift, so I think you are going to see people at the age of 38 and 39 who will have always rented and who will not want to buy,” he says.

Stephen Knight, chief executive officer of lender in waiting Portillion, doesn’t disagree but argues that home ownership is some-thing everyone still aspires to and that there are oppor-tunities to help people fulfil that aspiration.

“This market of £135bn is uncertain,” he says. “You can’t move with your job often, you can’t take equity out to spend in the economy, and you can’t trade up, or buy at a high LTV. But when that happens there’s also plenty of opportunity.

“If a lender could come out with a decent proposition, it could write £50bn of 95% LTV business in the first month if it had funding.

“There are plenty of opportunities in a barren market like this – it is a question of trying to get it together,” he adds. “Whether I can do it or not, or whether I am too old and I have lost the opportunity I do not know, but there is the opportunity.”

Finlay picks up on the fact that the regulator would argue that it’s not its job to create the market.

“It’s the FSA’s job to regulate the market, although we are saying it is constraining the market,” he says.

This is a point picked up by Brodie at the end of the discussion.

Demand, he points out, is generated by the number of lenders in the marketplace and from 2007 when there were 180 active lenders this has now reduced by around 90%.

“It is now down to 18, and even of those we are talking about primarily six or seven,” he says. “For HML that has been a big challenge.”

He adds that normally when markets go from a period of feast to famine, necessity leads to innovation and that’s how competition starts to grow.

“In times of dislocation you tend to see more innovation,” he says. “That will mean the market will shape up differently in the future and that will mean new opportunities as well.”