The speed of recovery in the UK housing market in 2013 took most analysts by surprise. On the one hand, conjuring up a housing recovery has positive benefits for consumer sentiment and the wider economy. On the other, the experience of 2013 has also caused economists and politicians to express their concerns over the threat of a new housing bubble forming.

Certainly what we saw in 2013 was quite different in nature to the short lived bounce in 2009 and 2010 in that it has been accompanied by a more meaningful improvement in transaction levels (up 27% in the three months to the end of December) and mortgage lending. There are strong indications that prices, transaction levels and mortgage lending will continue to increase in the short term at least.

What then is the risk prices will rise to such a degree that future interest rate rises cause severe financial stress across overly indebted households? Or that prices cannot be sustained by those requiring a mortgage, such that a few years down the line we see another housing correction?

Consequently, to what extent should the Government and Bank of England be considering controlling the UK housing market?

Our annual valuation of the value of UK housing stock provides insight into these issues. Overall, the value of UK housing stock rose to £5.2 trillion at the end of 2013. While it rose by £186 billion over the course of the year, it is still some £344 billion below the value in 2007.

Geography lessons

Perhaps more instructive is the geographical distribution of growth. London’s 2013 gain of £106 billion accounted for 56% of the overall growth. Although almost all other regions saw growth in the value of their housing stock, it was not to the same degree.

Yet even across London there has been a large variation that tells us a lot about the nature of the housing recovery. The value of housing stock in the boroughs of Kensington & Chelsea and Westminster may be 15% more than that of Wales, but in percentage terms, the biggest value growth was in the boroughs of Hackney, Lambeth and Wandsworth. Here growth, that has been well into double digit territory, has been fuelled by high levels of domestic equity, much less so mortgage debt.

At the other end of the scale Newham, one of Britain’s most indebted housing markets, saw price growth of just 3.9%. In this borough the value of housing stock has risen £1.2 billion in five years, less than 10% of the gains seen in, say, Islington.

Beyond London the pattern has been repeated. The markets showing the most growth over the past five years have been the likes of Elmbridge, Brighton and Hove, St. Albans, Guildford, all affluent and all attracting plenty of equity. On this basis, it is not surprising that Aberdeen, Bath & NE Somerset were among the highest risers in 2013.

Wide disparity

Of course there is a wide disparity between the best performing areas within and outside of London. In 2013, the value growth of London’s 10 most valuable boroughs at £55 billion was four and a half times that seen in the 10 local authorities that saw the biggest value growth beyond the capital.

Still, it is clear that equity is driving the recovery, something which we expect to continue though with different equity rich markets in different regions leading performance at different times during the recovery.

Segments of the market

The role of equity is not confined to different geographical areas but also has relevance to different segments of the market. Across the UK housing market as a whole, the level of equity (as opposed to mortgage debt) is high. Outstanding mortgage debt stands at £1.27 trillion – roughly one quarter of the value of housing.

Debt pays the smallest part in the rented sector. Whilst the boom in buy-to-let mortgage lending means that the mortgage debt went from 5% to 20% of value between 2001 and 2007, it currently stands at 17%.

This means a lot of the housing occupied by our younger households is relatively lowly geared, in a private rented sector now worth just short of £1 trillion.

This figure has increased by £277 billion over five years. By contrast, during this time the value of housing stock in the mortgaged owner occupied market has fallen by £172 billion reflecting a significant ongoing shift in the distribution of housing wealth between generations.

None of this means that the market is entirely free of risks from increases in interest rates. Even though levels of lending at high loan to value ratios has been heavily constrained post credit crunch, in that part of the housing market where there are mortgages, loan to income ratios are relatively high.

Amongst these mortgaged owner occupiers, the level of mortgage debt accounts for 54% of the total value of stock owned, up from 43% ten years ago. Furthermore an average mortgage, over three times the average borrowers income, means that the speed at which interest rate rises occur relative to growth in people’s income remains critical to house prices across a significant part of the country – particularly the more heavily indebted markets.

So we are left with a housing market that continues to be driven by equity rather than debt. One where future price growth is likely to be greatest in equity rich markets, where transaction levels are constrained in the lower rungs of the housing ladder in which debt requirements are greatest but which is still, to a not inconsiderable degree, sensitive to future interest rate rises.

Market intervention

This role of equity, as opposed to debt, in driving house prices means that simple house price growth is a difficult measure to use when policy makers are considering how and whether to intervene in the housing market. In the near future, the value of owner occupied housing without a mortgage will exceed that subject to lending.

Accordingly, the Mortgage Market Review, that comes into force in April, may well be effective in preventing households taking on unsustainable debt, but it does not follow that it will significantly suppress house price growth, that currently is emphatically not a function of a credit boom.

More aggressive intervention in the mortgage market, runs the risk of further restricting access to homeownership and thereby further widening the gap between the equity rich and the equity poor. It also runs the risk of widening the gaps between house prices at a local level given that in the 20 local authorities with the lowest proportion of housing debt it consistently accounts for less than 16% of the value of privately owned stock, whereas in the most indebted it is between 35% and 45%.

It would appear that to avoid further fragmentation of the UK housing market the politicians and policy makers could certainly benefit from a little magic.

More on this subject can be found in the online report, A Housing Market Divided.

Taken from
Residential Property Focus Q1 2014