What does the Bank of England interest rate rise mean for you?

What does the Bank of England interest rate rise mean for you??

The largest rate rise in 27 years!

The Bank of England has voted to raise interest rates by 0.5%, to 1.75%... Is this the end of property and affordable mortgages?

We look to answer this in todays article, broken down as into three sections;

1. What does it mean for mortgages?
2. What does it mean for investors?
3. What does it mean for property prices?

Firstly, a quick summary;

This increase is not a surprise, nor is the size of the increase. Interest rates are a tool used by the BoE to manage inflation. With high inflation, we can expect higher rates (to encourage people to save, not spend) and when inflation falls, we can expect rates to come down as well.

For us as investors, the direct impact of this will be on our pocket and the cost of mortgages, with lenders already increasing rates recently, meaning that most of us will simply now look to lock in fixed rates for longer.

According to the stats, 75% of UK mortgages are on a fixed deal, so should not be impacted by the rate rises, as the Bank of England are predicting inflation to peak in 2023, before coming back down.

Additionally, despite inflation, and rate rises, many of the large research houses in the UK (Savills, Knight Frank, Zoopla, RightMove) have revised up their predictions for house price?for the rest of the year, through the next five years. Due to the relaxing of mortgage stress testing rules that came into play this month.

Potential short term negatives;

Those on tracker rates will be impacted, those with fixed terms running out will be impacted. By how much? A rise from 2.5% to 3% on a repayment mortgage of GBP150k would be an extra GBP38 per month.

As a stand alone figure, this may not seem an awful lot, but when factored in with rising energy bills, food prices and day to day living, the squeeze could be quite real.?

Looking at my own mortgage as an example, it’s a GBP180k mortgage on interest only, the original mortgage offer has now expired, so I am having to reapply, the rate is now 4.5%, as opposed to 4.1%. Meaning my monthly mortgage payments are GBP675 as opposed to GBP615, a GBP60 increase.

Rent is GBP1000 per month, so still a profitable property.

Ok, let’s jump into more details

What does it mean for mortgages?

It depends what type of deal you are on. Most borrowers are on fixed-rate mortgages, and so for the time being at least they are insulated from the impact of the latest interest rate rise.

However, around 21% of households are on a variable rate – either a tracker mortgage, where the rate you pay is explicitly linked to the Bank base rate, or their lender’s standard variable rate (SVR).

A tracker mortgage will directly follow the base rate. With SVRs, things are less straightforward: these can change at the lender’s discretion, but many people will probably see an increase in their monthly costs

Do people on fixed-rate mortgages don’t have to worry?

Some with fixed-rate deals that are due to end later this year or early next are likely to be very worried – mainly because the price of new fixed-rate mortgages has shot up during the last few month, although, the BoE predictions for inflation, peaking in 2023, before coming back down again, which suggest the rate rises will be temporary.

Overall in the UK there are just under 9m residential mortgages outstanding, of which 75% are on a fixed rate, according to UK Finance.

During the past few years the vast majority of people taking out a mortgage have been opting to fix their payments, mainly because fixed rates have been so competitive but also to gain protection from rising rates.?

What about first-time buyers?

They have been very much impacted by the issue of pricier deals outlined above. On top of that, house prices are continuing to grow at double digit numbers.

Data by the property website Rightmove says the combination of more expensive mortgage deals and rising house prices mean the average monthly home loan payment for a new first-time buyer is ￡976 a month. That is 20% higher than in January when it was ￡813 a month. If the 0.5% interest rate rise is reflected in the pricing of new fixed deals, that would push up the monthly payment figure to ￡1,030.

Having said that, the BoE has reduced the mortgage stress testing for uk residents, so people should now be able to borrow more, to counter these rising prices. Check out our video below;

What is going to happen to house prices??

I wrote an article a few weeks ago that countered the idea that we were in a bubble, as property prices are not rising ‘unsustainably with a need for a correction’. Property prices are rising at a similar rate to inflation, which means in real terms, they are not growing at extraordinary rates. Which potentially means the growth can continue, full article here;

?In addition to this back at the end of May, we recorded in the Market Wrap that the Bank of England was in the process of reviewing the mortgage affordability stress tests to which borrowers in the UK been subjected to since 2014.

At the time we reported that this relaxation would provide some additional medium term capacity for house price growth, but the extent of such additional growth would be:

• Dependent on the timing and nature of the reform; and
• Constrained by underlying limits on lending at high loan to income ratios and the ongoing need to adhere to Responsible Lending Rules.

The decision to do away with the most stringent form of mortgage affordability stress testing from the beginning of August has led to many, notably Savills, Oxford economics, the FT, RICS increase their forecasts for UK house prices over the next five years. In this case we look at Savills research and their projections have been increased from +12.9% to +17.4%.

This is despite some of the headwinds currently faced by the UK economy.

They say that Loan to income ratios would be restored to levels seen at the end of 2021.

Firstly let us look at Savills Current UK Mainstream Forecasts and assumptions

Savills have only changed our expectations?for price growth from the end of 2023, on the?basis that:

• The squeeze on household finances?from both general inflation and increased?costs of debt is likely to slow house price?growth substantially over coming months, with the prospect of modest price falls next?year, but:
• Prices will continue to be underpinned by?the shortage of stock available on the market?over the course of 2022, despite more caution?from buyers.

Savills stress that the additional?capacity for house price growth from 2024?onwards is predicated by an assumption that?bank base rates return to 1.75% over the next?18 months, even if they are increased to a higher?level in the short term. Which is looking very likely.?

The decision to do away with the most stringent form of mortgage affordability stress testing from the beginning of August has caused savills to increase their forecast for UK house prices over the next five years from +12.9% to +17.4%

Source: Savills Research (House Price Forecasts), Oxford Economics (Economic Forecasts as of 17th July 2022)?

The mortgage affordability and average loan to income ratio charts here shows the effects of the deregulation…

AFFORDIBILITY FOR THE AVERAGE HOUSEHOLD BUYING THE AVERAGE HOME

THE SENSITIVITY ANALYSIS SHOWS THE AFFORDABILTY OF MORTAGGE PAYMENTS AS % OF INCOME.

Finally in this chart we see house price growth to Q4 2026, with differing projected interest rates and the likely outcomes.

?If rates were to end 2026 at 2.25%, that would negate any increase in price growth capacity unlocked by changes to mortgage regulation.

Obviously, this comes with some realistic caveats in the current uncertain economic world. And with inflation looking likely to be higher for longer in the UK, it seems to us at APW towers that these regulation changes will help to support the market and minimise potential downside, as opposed to helping the market rise.

Finally, as the UK worries about its financial situation, this week I have been working with some expatriates based in Argentina: spare a thought for them, interest rates are 42.5% and inflation is 65%. The UKs troubles pale in comparison.

Thanks,

Callum