An insular obsession with house prices and mortgages

Posted by Unknown on Saturday, June 14, 2014


There is no shortage of hand-wringing about the housing market in the UK, although lift your eyes beyond the M25 and I'm not sure how justified it all is. North of the Watford Gap, prices remain below their peak and while the rate of growth in house prices overall is higher than other economic measures, the IMF's recent global analysis highlighted much bigger potential bubbles in Canada, Australia and New Zealand.




There is a lot of back-covering going on with regard to the housing market. The Treasury is keen that the Bank is in the spotlight if boom turns to bust. The Bank points out that supply of housing is the key issue, not availability of punchy mortgages. Everyone knows measures to restrict loans are easier to talk about than impose. Also, the influence of cash buyers, foreign and domestic, means a mortgage clampdown may have less impact than hoped.




The key message from the governor's comments at Mansion House last week was not that interest rates might start to rise more quickly than expected but that the trajectory and end-point of the next rate cycle would be "gradual and limited". As with the mis-judged remarks by the chair of the US Federal Reserve, Janet Yellen, on US interest rates a few months ago, the initial market response to a change in expectations about the timing of rate rises can be short-lived if the underlying picture does not change.


The key determinant of where interest rates end up and how quickly they will get there is the level of household indebtedness in the UK, which remains elevated at 140pc of disposable income. This means that the new normal for interest rates is significantly lower than in the past. Interest rates will peak at between 2pc and 3pc, because even at that relatively modest level many people will struggle to service their borrowings. The recovery, which looks so miraculous today, will evaporate like the morning dew if rates rise at anything other than a shallow and pedestrian pace.


It is easy to forget, given the more recent history of the interest rate cycle, that interest rates in the UK were stuck at 2pc for 20 years until the Fifties. It puts into perspective current anxiety about interest rates being artificially low for five years.


So for investors in the UK stock market the picture remains essentially as it did before the Mansion House speeches. Robust growth argues for smaller and mid-cap companies continuing to outperform the FTSE 100's blue-chips, despite their considerably less favourable valuations; sterling will remain reasonably strong which favours domestic businesses over exporters, especially those for which Europe is a key market; and equities still look more interesting than bonds, although if you believe rates will stay lower for longer then fixed income will continue to play a diversifying role in a well-balanced portfolio.


Ultimately, however, an international market like the UK's will tend to shrug off remarks about domestic interest rates and housing. Britain may be at the front of the queue to raise the cost of borrowing, but what Mark Carney says matters less to investors than what his counterparts in Washington and Frankfurt have in mind.





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