16 November 2020
The Coronavirus lockdown, recession, job insecurity and increasing caution among lenders all made 2020 a challenging year in the mortgage market. FCA economists examined how both lenders and borrowers reacted to that challenge.
Stay at home if you can – that was the official advice for much of 2020. Small wonder then that, for many people, plans to move house were cancelled or postponed and the volume of mortgage transactions fell.
But the mortgage market saw other changes too. The supply of mortgages contracted with the range of products shifting, and signs of lenders becoming more risk averse. Meanwhile, remortgaging activity remained stable, though fewer borrowers withdrew equity from their homes.
A team of economists at the FCA working hand-in-hand with colleagues in supervision and academic collaborators have been monitoring the major developments in the U.K. mortgage market to help assess exactly what is going on and what role the mortgage market and housing debt will play in the post-pandemic recovery.
During the lockdown phase of the Coronavirus crisis there was an unprecedented decline in the range of mortgage products available. This decline has levelled off but as yet shows no sign of reversing.
In just the first few weeks of the crisis in early March, the number of mortgage products available fell by about 50% and the decline was especially pronounced in the riskiest Loan-To-Value (LTV) bands.
In February 2020, deals with an LTV above 90% represented about 10% of the U.K. residential mortgage market. But by June 2020 this had shrunk to less than 2%, likely driven by lenders’ increased risk aversion.
The closest the market has come to such a shrinkage in product offering was the Financial Crisis of 2007-09 when a similar reduction took place in the number of of high LTV products available. But there were important differences.
Just before the Financial Crisis high LTV mortgages (those above 90%) were a much larger segment of the market (40%). Secondly, the reduction in products during the financial crisis took place in a gradual way over 18 months, rather than in the space of just a few short weeks as in 2020.
The similarity and these stark differences can be seen in the graphs below.
Number of mortgage products available
Adding to the contraction in the offered range of high LTV mortgages was a change in the pricing of these products. The Bank Rate was trimmed in response to the Coronavirus crisis and lockdown and these base rate reductions were passed through into lower mortgage rates in most segments, including some of the high LTV products.
However, for LTVs of 90% or above mortgage rates have risen. Such mortgages are typically sought by first time buyers and those with few savings.
The number of mortgage originations also fell sharply during the crisis, but has already started to show signs of recovery.
The year began quite strongly with mortgage origination in January 2020 16% higher than in 2019. Unsurprisingly, the crisis stopped this trend in its tracks and in April 2020 there were 54% fewer mortgage originations than in April 2019. Soon after the market turned again and as at the end of June 2020 it was showing a marked rebound. However, it remains well below the trend of previous years.
The graph below is based on FCA product sales data and shows monthly changes in mortgage originations, comparing 2020 with the previous 5 years.
Note: Lines are normalised at the January figure. The dashed line represents the median year-on-year change recorded in 2015-2019. The swathe is built from the interquartile range of normalised year-on-year changes for 2015-2019.
Part of the rebound was likely due to pent-up demand as those who put off a house purchase in the early stages of lockdown came back to the market.
Will this recovery continue and eventually return to trend? This is of course at this stage a great unknown and will hinge on many factors not least the pace of the wider economic recovery.
We may again look back to the Financial Crisis for a comparison, but we need to be wary. After the Financial Crisis, mortgage originations never returned to pre-2007 volumes, stabilising at around half their pre-crisis level.
However, this is far from necessarily the model for today. Before the financial crisis mortgage volumes were by historic standards very high and indeed were themselves a symptom of the credit boom. The correction of that boom might have been expected to lead to a re-setting of the market at lower levels. This is not the case in 2020. Mortgage originations were not unusually high before Coronavirus and their fall was not due to a correction within the credit market itself, but rather was due to an external shock (the virus).
So, we may cautiously speculate that, if and when the coronavirus crisis has passed, mortgage originations could return to pre-Covid levels. Again though, the critical factor will be the direction of the wider economy.
But one change may be more lasting. In line with the sharp decline in high LTV mortgage availability, the rebound in mortgage originations after the peak of the crisis was slower in the high LTV market. Economic circumstances were however different in 2007-9 and we should be cautious about reading directly across to 2020.
If the drop in availability of high-LTV mortgages persists, along with increased rates for these products, this will impact lower income, lower wealth borrowers disproportionately. With these households more likely to be younger, this in turn may imply further widening of intergenerational disparities.
The disruptions observed in mortgage originations for house purchase did not extend to originations related to external remortgaging.
As might be expected, the pace of remortgaging was interrupted by the onset of the lockdown, but has remained within the range of remortgaging activity seen over the previous five years.
In comparison with the gyrations seen in home-buying this amounts to remarkable stability and suggests people were still able to switch provider – a positive indicator for competition in this market.
Again though, those remortgaging are typically established home owners with significant equity. So, we may be looking at another example of how recent events have been less damaging to the financial outlook and choices available to older generations, while restricting the choices of younger first-time buyers.
Equity, payment holidays and repossessions
Among external remortgagors, equity extraction – homeowners using their equity as savings to draw on – declined.
If future data releases show that equity extraction bounces back, it will be a reassuring signal for the economy, given the role that housing wealth plays in consumer behaviour.
The proportion of mortgages entering some form of payment suspension increased sharply, following the introduction of the mortgage payment deferral scheme. As of June, slightly less than one out of five outstanding mortgages had its payments deferred.
And following temporary restrictions against repossessions, the proportion of mortgage-holders facing a repossession order slumped.
The way forward: no time for complacency
The indicators analysed so far allow an evaluation of the very preliminary impact of the pandemic on the UK residential mortgage market. As we have suggested there are signs that the market has bounced back and started a recovery.
However, it is also clear that, so far at least, access to the the mortgage market has been reduced for those in need of a high LTV loan, with such products becoming fewer in number and their costs rising. First time buyers and those with limited savings have seen their options contract.
Should this trend continue it risks widening the gap between established homeowners and those hoping to become property owners, between younger and older generations.
Even in a scenario where the mortgage market remains fairly resilient overall, the market contours and structure may be shaped further by the pandemic, with potential consequences for vulnerable borrowers.
More details of our research to date may be found in a recent Occasional Paper. But work continues, not least because so much remains unknown about the shape of the post-pandemic economy, which for the time being remains heavily dependent on government support.
We will continue to study the resilience of the mortgage market as this wider support is reduced and help inform Covid response work.
(The authors would like to thank Daoud Fakhri, Julia Tennant, Tom Bardrick, Alex Chruscikowski, Rob Westwood, Tommaso Valletti and Paolo Surico for their insight and contributions to this project.)