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Economic outlook and mortgage market
implications
Little recovery in sight
Martin Gahbauer
Senior Economist
Outline
• 3 negative shocks to mortgage transactions
1. “Credit crunch”
2. Economic downturn
3. House price expectations
• Future prospects for activity
Shock #1: Credit Crunch
2007 Flow of funds (£bn)
0
20
40
60
80
100
120
140 Net mortgage and consumer creditChange in deposit balances
RMBS, covered bonds, etc.
Shock #1: Credit Crunch
Likely Flow of Funds in 2008
-40
-20
0
20
4060
80
100
120
140
Retail depositgrowth
Maturing RMBS Funds availablefor lending
2007 lending tohouseholds
Source: Nationwide calculations
Credit crunch impact on lending criteria
Expected change in credit scoring criteria (net balance)
-50
-40
-30
-20
-10
0
10
Dec-07 Mar-08 Jun-08Source: BoE Credit Conditions Survey.
Shock #2: Economic downturn
• Economic output likely to fall over next year
• Domestic demand to be hit hardest
• Noticeable recovery not likely before 2010
GDP Fan Chart - Aug Inflation Report
ONS Data
-2
-1
0
1
2
3
4
5
6
2003q1 2004q3 2006q1 2007q3 2009q1 2010q3Source: Bank of England
-2
-1
0
1
2
3
4
5
6
Shock #2: Economic downturn
Sterling Oil Price
£40
£45
£50
£55
£60
£65
£70
£75
1/ 1/ 08 2/ 12/ 08 3/ 25/ 08 5/ 6/ 08 6/ 17/ 08 7/ 29/ 08 9/ 9/ 08
Source: Reuters
Shock #2: Economic downturn
Real post-tax income per household
-2.0%
-1.0%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08
Source: ONS, DCLG
Mortgage Affordability
Initial Affordability of Mortgages
10%
20%
30%
40%
50%
60%
1984 Q1 1987 Q1 1990 Q1 1993 Q1 1996 Q1 1999 Q1 2002 Q1 2005 Q1 2008 Q1Source: Nationwide
FTB mortgage cost as % oftake-home pay
Long-run average
• Falling real incomes are a problem …
• … especially since affordability metrics were stretched to begin with
Labour market beginning to buckle
Claimant count monthly change
-20
-10
0
10
20
30
40
Aug-03 Aug-04 Aug-05 Aug-06 Aug-07 Aug-08Source: ONS
• Unemployment rate likely to rise appreciably
• Most job losses so far in construction, manufacturing and hotel/restaurant sectors
Shock #3: House price expectations
House price inflation (% yoy)
-15
-10
-5
0
5
10
15
20
25
30
35
Aug
-91
Aug
-92
Aug
-93
Aug
-94
Aug
-95
Aug
-96
Aug
-97
Aug
-98
Aug
-99
Aug
-00
Aug
-01
Aug
-02
Aug
-03
Aug
-04
Aug
-05
Aug
-06
Aug
-07
Aug
-08
Source: Nationwide, Halifax
Nationwide Halifax
Shock #3: House price expectations
Consumer expectations for 6 mth house price inflation (%)
-5
-4
-3
-2
-1
0
1
2
3
4
5
Aug-05 Dec-05 Apr-06 Aug-06 Dec-06 Apr-07 Aug-07 Dec-07 Apr-08 Aug-08
Source: Nationwide Consumer Confidence Survey
Big impact of shocks on lending volumes
Mortgage approvals for house purchase ('000s)
0
20
40
60
80
100
120
140
Apr-93 Apr-96 Apr-99 Apr-02 Apr-05 Apr-08
Source: Bank of England
0
5
10
15
20
25
30
35Total Specialist
Impact of shocks on lending volumes II
Remortgage Approvals ('000s)
60
70
80
90
100
110
120
J ul-05 J an-06 J ul-06 J an-07 J ul-07 J an-08 J ul-08Source: Bank of England
Reasons to be cheerful: Inflation now peaking …
-1.0%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
Aug-99 Aug-00 Aug-01 Aug-02 Aug-03 Aug-04 Aug-05 Aug-06 Aug-07 Aug-08 Aug-09 Aug-10
Headline inflation Core Inflation
… and base rate likely to fall sharply
3.00
3.50
4.00
4.50
5.00
5.50
6.00
6.50
Oct-06 Apr-07 Oct-07 Apr-08 Oct-08 Apr-09 Oct-09
Base rate 2-yr Swap
Market will eventually recover
• Valuations will adjust to more affordable level
• Rental yields likely to rise well above “risk-free” rate of return
• US rescue plan may boost investor confidence
• Economy and employment outlook should improve by 2010
• Low activity has been leading to build-up of pent-up demand
Demographic projections still favourable
Demographic Projections
-400
-300
-200
-100
0
100
200
300
1982 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012
Source: Government Actuary's Department
15-24 yrs old 25-34 yrs old Total FTB cohorts
Specific market dynamics
• House purchase:
Activity should already be in a bottoming out process, albeit at extremely low levels
Expect FTB activity to recover somewhat in 2009
• Re-mortgage:
Deal maturity pipeline to slow in 2009
Some borrowers may not meet criteria
But rate cuts should lead to more attractive deals
Conclusions
• Near-term outlook for transaction volumes remains very difficult
• Adjustment takes time to work through system …
• … but a cyclical recovery will eventually arrive