Over the past few years, the UK non-conforming market has expanded and become increasingly flexible and competitive, allowing many would-be homeowners with adverse credit to ascend the property ladder.
Having gone through a period of stable interest rates combined with rising property prices, the past six years have provided an ideal economic environment for the non-conforming market to flourish.
From new start-up companies to banks and building societies, more lenders are realising there are large profit margins to be earned in comparison to their traditional prime mortgage lending.
However, as the conditions that caused so much growth begin to subside, with rates creeping up and predictions that house price growth is slowing, should there be concern that the UK non-conforming market will see a similar meltdown to the US non-conforming market?
Assessing the facts
The UK economy has always been compared to the US economy in that they are on similar cycles when it comes to growth and recession. The Wall Street Crash, the subsequent Great Depression in the1930s, and the economic effects of 9/11 were also felt across this side of the Atlantic.
Yet, despite house prices tumbling in the US, this has not yet dramatcially affected the US stock market and therefore the impact of the non-conforming meltdown has passed by the wider global economy.
The US non-conforming meltdown occurred as house prices fell and interest rates took a sharp upwards turn. Ray Boulger, senior technical manager for John Charcol, explains that these are the worst combination of economic conditions for any borrower who is already
stretched financially.
Boulger says: “US property prices are the worst they have been for 40 years. The US has a tradition of long-term fixed rates of 15 or 30 years with no early repayment charges, but after 9/11, short-term rates fell to as little as 1 per cent. A consequence of this was lots of people took out adjustable rate mortgages, comparable to variable rate mortgages.
He adds: “Many people in the non-conforming category took out these adjustable rate deals, enticed by teaser rates. This was fine, as long as the equity in their homes was going up, they could simply re-mortgage for more money and get another teaser rate. However, now a lot of those borrowers cannot get a remortgage.”
As US house prices go from bad to worse, over 27 non-conforming lenders have gone bust, as many of the non-conforming borrowers who gave them business are now in negative equity. The securitisations that funded these firms have dwindled in value, forcing those non-conforming lenders who remain to increase their costs on top of the increases they have already made in the face of rising rates. Not only that, many non-conforming borrowers have been shut out because of the higher lending criteria they have had to impose.
Mirroring the US?
Despite fears that house price drops would be mirrored in the UK, the opposite has occurred and property prices have continued to flourish. Latest figures from Nationwide reveal a steady annual growth of 0.7 per cent in February, pushing annual house price growth to 10.2 per cent.
As demand continues to outstrip supply, property prices have continued to rise with gross lending hitting an all time high in January of £26.8 billion, according to the latest data from the Council of Mortgage Lenders (CML). Despite being down 6 per cent on the £28.5 billion lent in December, it is up by 16 per cent on January 2006 figure of £23 billion.
Boulger comments: “A key difference between UK and US non-conforming lenders is that the UK lenders have money in their books as well as securitisations. In the US most lenders are mainly securitised, forcing them to push up their costs as investors back out.”
“The only danger in the UK would be if investors lost confidence because of what’s happening in the US and lenders could no longer securitise books at a good price.”
It seems the real danger to the non-conforming market would be if house prices began to fall and interest rates continued to rise.
Darren Pescod, managing director of The Mortgage Broker, says: “The UK non-conforming market will go some way in following the US market as UK customers struggle with the cost of debt and cost of living increases. This will make it tougher on lenders and their profits as customers increasingly default on their loans. Bad debt provisions will have to swell and less attractive deals on offer in the securitisation market will mean lenders feel the squeeze.”
Meltdown
Despite three rate rises over the last six months which have inevitably had some effect, in the current economic circumstances it seems unlikely the UK non-conforming market will experience the same degree of problems that the US has.
The US non-conforming market has gone into meltdown as house prices have fallen and rates risen sharply, but despite the Monetary Policy Committee wanting house price growth to stabilise, it will not want to see house prices fall as this will have more far-reaching consequences for the economy.
Boulger adds: “ It is unlikely rates will go above 5.50 per cent. They would have to go up to 6 per cent for the UK to start seeing people struggle with their mortgage repayments.”
