For years, home ownership in the UK has been a one-way venture. Prices have risen steadily since the global financial crisis, rising in even greater steps after the pandemic began.
Fueled by a post-lockdown buying frenzy, the average UK house price hit a record £275,000 ($315,474) in December, up £27,000 on the previous year’s high. People who buy houses benefited for the first time from tax cuts on their purchases and even though the homes were more expensive, the mortgage rates kept monthly payments affordable.
Prices have risen every year since 2012, when they fell by 1.1%, according to data from Nationwide, a major mortgage lender. Now that boom is over.
It was already fading long before Liz Truss and Kwasi Kwarteng blew up the UK bond market and sent borrowing costs through the roof. But the turmoil in the financial markets sparked by the former prime minister and her then finance minister’s plans for unfunded tax cuts made matters much worse.
The sharp and sudden rise in mortgage rates that followed has made it much more expensive to buy a home, leading some forecasters to predict a 10-15% drop in prices over the next year or so.
Although most of Truss’s tax cuts have been dropped by new Chancellor of the Exchequer Jeremy Hunt and Prime Minister Rishi Sunak, calming bond markets, the era of cheap debt that helped drive house prices ever higher is coming to an end. The Bank of England is widely expected to raise interest rates for the eighth time since December when it met on Thursday, taking its benchmark rate to 3% from near zero late last year.
That will keep mortgage rates elevated, even if they are not at current inflated levels.
“I think all that can happen in the short term is that we go back to where we were at the end of August,” said Tom Bill, head of UK housing research at broker Knight Frank. “There is a bigger, broader psychological shift that needs to take place after 13 years of ultra-low borrowing costs and the housing market’s adjustment to mortgage rates that aren’t below 1% or 2%.”
UK mortgage rates have been ticking upwards since the spring, in line with rising interest rates. But Truss and Kwarteng’s September 23 “mini” budget accelerated those increases.
“The mini-budget added a full percentage point to mortgage rates,” said Richard Donnell, director of research at online property portal Zoopla.
The promise of sweeping tax cuts but no plan to pay for them caused a bond market that drove up borrowing costs for lenders. “The biggest immediate impact was the accelerated rate of change in mortgage rates,” said David Hollingworth, associate director of communications at broker L&C Mortgages.
Within days, lenders pulled over 1,500 products and more than half have still not returned to the market, according to financial product comparison website Moneyfacts.
Even though Kwarteng and Truss are out, along with most of their tax cuts, mortgage rates still haven’t fallen back to where they were before the pair unveiled their doomed financial plan.
Average two-year and five-year fixed rates were at 6.47% and 6.32% on Tuesday, levels not seen since 2008. That compares with around 4.75% before the “mini” Budget, according to Moneyfacts.
For a typical borrower, with a mortgage worth 70% of the price of their home, that would increase monthly repayments by £500 ($574), according to Donnell.
The dramatic rate reset has led to some homeowners spending thousands of pounds to refinance early for fear that rates could climb even higher.
Karam Heer, a tax advisor based in London, decided to refinance his two-year fixed mortgage a year earlier than planned, taking his interest rate from 1.75% to 3.57%. It will cost him an additional £375 ($424) a month until January 2028.
“We haven’t really had a choice,” he said. Although it cost him £4,500 ($5,162) To switch deals early, Heer wanted a fixed rate because, as he told CNN Business, “I have absolutely no idea what’s going to happen with the rates.”
Tudor Nanu and his wife, who bought a house in February, are thinking of doing the same. Health workers in southeast England are preparing to take a £6,000 ($6,883) fee to refinance early at a rate almost double what they had been paying. The higher rate would cost them an extra £500 ($574) a month, on top of a one-off refinance hit.
Treasury yields fell back in October and swap rates – a gauge of bank funding costs used to price mortgage rates – are also falling. This means that mortgage rates are likely to drop over the next few weeks.
Still, there’s no going back to the “ultra-low levels” of recent years, says Donnell, who believes mortgage rates of 4% to 5% will become the new norm.
It comes as a shock to millions of homeowners who bought homes when prices were much lower. According to Bill at Knight Frank, more than 4 million mortgages have been issued to first-time buyers since 2009 when interest rates “hit the floor.”
“So there are a lot of people out there who don’t appreciate what it’s like when their monthly expenses go up,” he told CNN Business.
As many as 1.8 million borrowers on fixed-rate mortgages will need to refinance next year, according to the Resolution Foundation, a think tank. Neal Hudson, a housing market analyst at research firm BuiltPlace, estimates that about 300,000 fixed-rate deals will close between October and December.
“As more buyers face the reality of monthly mortgage bills rising by hundreds of pounds, the financial pain will spread across the housing market,” added Bill.
Signs of a slowdown are already beginning to emerge, as banks take a more cautious approach to lending and aspiring homebuyers put off purchases in the face of much higher borrowing costs.
UK house prices fell 0.9% between September and October, the first fall in 15 months, according to data from Nationwide. The average house now costs £268,282 ($309,396).
Mortgage approvals also fell to 66,800 in September, from 74,400 in August, data published on Monday by the Bank of England showed.
Zoopla’s Donnell said demand from new buyers has fallen by 30% since the Truss Budget. “Soon after the mini-budget it was difficult to do business, now sales are still going on but at a 20% lower run rate than they would normally be,” he said.
Alan Edwards, a local authority worker from the north of England, was about to start house hunting, hoping to buy early next year, until the mini-budget sent mortgage rates soaring.
“I can’t see that happening now,” he told CNN Business. Edwards expected interest rates to rise over the next few months, but not “this fast this fast,” he said. “We really have to pay attention to the government now because they can drive up our costs by having a bad week of in-house manufacturing.”
Those who buy will not be able to borrow as much, which will depress prices. Take, for example, someone who a year ago could afford to put away £1,500 ($1,700) a month for a 25-year-old mortgage. At an interest rate of 1.75%, the lowest level reached in September 2021, that person could have borrowed £378,000 ($433,000). Today, with an interest rate of 5.5%, the monthly payment is only enough for a mortgage of £244,500 ($280,000).
A decline in purchasing power makes a significant fall in house prices inevitable, according to Andrew Wishart, senior economist at Capital Economics. The consulting business expects prices to fall between 10% and 15% between now and 2024. Credit Suisse has made a similar forecast.
It’s a bigger problem for the UK economy, given that 36% of household wealth is tied up in property, according to data from the Office for National Statistics. When house prices fall, homeowners feel less confident about their personal finances, causing them to cut back on spending and wait to make further investments.
Homeowners may already be strengthening their finances and saving more in anticipation of higher mortgage payments. Households deposited another 8.1 billion pounds ($9.3 billion) with banks and construction companies last month, compared with 3.2 billion pounds ($3.7 billion) in August, the biggest increase since June 2021, according to Bank of England data.
Even if house price falls simply bring prices back to where they were before the pandemic-induced buying spree, it will still hit the UK economy hard, as many sectors of the economy, from financial services and construction to movers and furniture stores, rely on a strong one and active housing market.
Analysis by Knight Frank and the British Property Federation in 2020 found that for every 100,000 housing transactions involving existing homes, the UK economy benefited to the tune of almost £1 billion ($1.14 billion).
“Higher debt payments, falling property prices and a slowdown in construction will play a major role in dragging the economy into recession,” Wishart said.
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