Why Negative Equity Has Occured.
- Falling House prices House prices have fallen 15% on their mid 2007 peak. House prices are falling because:
- Shortage of available mortgages due to credit crunch.
- Poor affordability ratio of house prices to incomes is still high (above long term trend)
- Lack of Confidence in housing market. No one wants to buy when house prices are falling
- Impending recession and rising unemployment discourage people buying
- Interest rates although low by historical standards, increased between 2005-07 making mortgages more expensive.
- Small Deposits In 2006-07, many were buying houses with small deposits. This makes it easier to slip into negative equity. For example, if you bought a house for £100,000 and only put down a deposit of 5% (£5,000) It only takes a 6% fall in house prices to cause negative equity.
How Bad is Negative Equity?
- Negative equity is not a problem if you are happy to live in the house and don't have to sell. Negative equity might not be a problem if you want to sell and move to a smaller house.
- Negative equity means it is much more difficult to remortgage. The fall in house prices creates a negative wealth effect and lowers consumer confidence. This reduces consumer spending and is a factor causing the current recession. - See: effects of lower house prices.
- Negative equity is a real problem if you fall into mortgage arrears and the home is repossessed. This means that even after selling the house, you will still owe money.
- Unfortunately, repossessions in the UK are rising at the moment. Repossessions in the last quarter increased to over 11,000 in the last quarter. This is a 70% increase on this time last year.
- It is worth pointing out that the ratio of home repossessions is still relatively low (about 0.4% of all loans). This is lower than the rate of repossessions in the last boom (peaking at 75,000 or 0.77% of loans. (Mortgage default rates in UK) Nevertheless, home repossession is one of the most stressful financial experiences. With unemployment rising, repossessions are forecast to rise in the near future.
Prospects for UK Housing Market in 2009There are tentative signs of slight easing in interbank lending following the government's bailout for the banks. However, there is going to be no quick return to the lax lending criteria of the 2000s. Mortgage lending will remain constrained next year.
With a shortage of mortgage and rising unemployment demand for houses will remain muted. Futhermore no one wants to buy in a period of falling house prices.
Any Good News for Housing Market?The best news for the housing market is the recent cut in interest rates from 5.0% to 4.5%. We can also expect future interest rate cuts to under 3%. Lower interest rates will make mortgages more affordable and avoid some repossessions.
However, lower rates are unlikely cause a quick stabilisation in house prices. Market fundamentals are likely to push house prices lower, despite cheaper mortgages.
Also even lower rates may be insufficient to avoid a rise in repossessions as the rate of unemployment rises sharply