In the last post, we compared affordability in most recent 2 cycles. The post reviewed 2 different measures of affordability: mortgage repayments to income and house price to earnings ratio. Most interesting difference between the cycles is the pace of growth in average earnings. This post will comment on affordability in regards to first time buyers.
In assessing the affordability of FTBs, we have applied the same measures of affordability as in post Affordability. Chart.1 below shows the Nationwide first time buyer house price to earnings ratio (HPER). The chart shows that in the recent cycle HPER for first time buyers peaked at 5.4 in mid 2007. The previous high was 3.9 in mid 1989. After reaching +2 standard deviation levels, house price to earnings ratio has trended downwards close to +1 standard deviation. Even at +1 standard deviation, the level of the ratio still exceeds the peak in mid1989.
Chart.1 House Price to Earnings Ratio at Elevated Level
Household earnings are an important factor in considering house affordability. However, a majority of first time buyers require mortgage financing to purchase a house. Other factors to consider include the lending practices and risk preferences of financial institutions toward property financing are another factor to consider.
Bank lending to the property market is tends to be cyclical. Thus loan to values reach levels of 100% as property price are rising. Ironically, peak in lending is usually coincides with peak in property prices. Lenders are lending based on the property value as opposed to the ability of the borrower to service debt. Conversely, during periods of lower or expected negative price growth, lenders tend to reduce the level of mortgage financing to individuals. Consequently, individuals require larger deposits to obtain a mortgage. Deposits may not be a major constraint for current owners, especially those with a large percentage of equity in the property. Low LTVs are more of an impediment for FTB wishing to take the first step on the property ladder. A recent study by Genworth Financial states that between 2006 and 2009, mortgages for borrowers with a 10% deposit declined by 90%. The Council of Mortgage Lenders’ (CML) Regulate Mortgage Survey (RMS) for Oct 2010 reported that for, Aug 2010, FTBs mortgage LTV was on average 79% (75% for Aug 2009), while home movers LTV was 66% in Aug 2010 (68% in Aug 2009). The CML RMS Feb 2006 reported that in Q4 2005; FTBs borrowed an average of 90% of the value of their property, while movers borrowed an average of 72% in the fourth quarter of 2005.
Chart.2 Percent of Loan Advance is there Convergence?
Chart 2 above shows the percent loan advance for first time buyers and homeowners. Interestingly, since the early 1980’s, homeowners’ LTVs have been rising at faster rate relative to FTBs. Consequently, the spread between LTVs of FTBs and homeowners has diminished over time.The lower levels of LTV for homeowners may reflect high deposit available from the equity held in property prices.
Chart.3 Mortgage Payment to Earnings Ratio for FTBs close to Average
Mortgage payment to earnings is fairly close to series average. At the ratio peak, mortgage payments exceeded 50% share of take home pay. Despite the low interest rates, FTBs are still facing challenges getting on the house ladder.
Chart.4 FTB House Price Show Deeper Decline
FTB house prices have show a deeper fall relative to the UK average and house prices for former homeowners.
FTBs are obstacles getting on the housing ladder. Recent reports have suggested that the average of a first-time buyer is now 37 years. The wealth barrier is the largest barrier to taking a first step on the housing ladder. The HBF report highlights the difficulty faced by FTB in saving a sufficient deposit.
Tougher lending criteria, wealth barrier and anemic earnings growth can result in potential homeowner renting for a longer period. Can this lead to the emergence of institutional residential investors? Prices may stagnant for a long period with the absence of FTBs to propel the housing market.
In the next report will assess the supply side of residential property market.