Trampoline Budget 2009 Review

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24 April 2009

GIVEN THE SIZE OF THE HOLE, I THINK WE ARE GOING TO NEED A BIGGER TRAMPOLINE...

With so much speculation and anticipation leading up to this budget, there has been a strong sense of anticlimax, disappointment and indeed shock amongst commentators and industry leaders; this was reflected on this morning's front pages and at length within their covers. The experience of yesterday afternoon was like reaching the edge of the Grand Canyon for the first time - the size of the hole is truly awe inspiring.  So while still pondering how many average Scottish homes you could buy with £1.1 trillion, what does the 268 pages of the Budget Red Book mean for the Scottish residential property market?

STAMP DUTY

First, the stamp duty 'holiday' for properties under £175k has been extended until the end of the year. While this is welcomed as a useful helping hand for first time buyers, there have been many voices championing an extension of the stamp duty sabbatical into the higher stamp duty thresholds to encourage a more wide scale incentivisation to transact; with the average house price in Edinburgh over £190k this measure will stop short of real mass market impact. Given the magnitude of the deficits and borrowing facing the government in coming years a wholesale repeal of stamp duty, while it would have provided a much needed shot in the arm for a recovering market and struggling industry, appears to have been a bridge too far in terms of providing sector specific relief whilst balancing astronomical levels of debt.  The next issue with this temporary extension, rather than a more substantial policy, is that it still remains to be seen as to what will happen at the end of the year; will it be extended again or will there be an argument that its imminent reinstatement will stimulate buyers to get in under the wire?

£500m TO ENCOURAGE DEVELOPMENT in England & Wales

Secondly, the announcement of a £500m package to kick start currently stalled developments can be seen as an attempt by the government to aid the ailing house building industry, however, it has been met with mixed reception in the industry, with Brian Berry of the Federation of Master builders, representing the more negative view by describing it as a "drop in the ocean". The intention is to "leverage in private development finance by reducing upfront costs with equity, gap and infrastructure funding". How this funding is administered, whether it is by the Housing and Communities Agency as speculated or other means, will be key in determining who and how much real world assistance this provides. However, as the £500m allocation is for England and Wales only, we will have wait and see if our Scottish Government can provide a measure that is met with more enthusiasm and optimism.

MORTGAGE AID

Other measures announced to aid those struggling to meet mortgage obligations can also be seen as a positive step as increased home owner distress and repossession numbers can have a negative impact on the wider market as distressed sales can accelerate house price retreat. Once again, this policy is one of extension rather than innovation and while increased funding and loosened qualification criteria should be welcomed there is little to get excited about in terms of boosting the market.

RESIDENTIAL MORTGAGE BACKED SECURITIES

From the policies above there is little that will notably change the current market in Scotland; the core issue remains the fundamentals of economic outlook and credit availability. With this in mind, the extension of the Credit Guarantee Scheme (CGS) to include Residential Mortgage-Backed Securities (RMBS) is intended to enable banks and building societies to expand their current lending. With securitised mortgages accounting for an estimated 1/3rd of banks mortgage market the reopening of this market is essential for future lending. Banks that enter the CGS will have "quantified and legally binding lending commitments"; already in the scheme is the RBS which will lend an additional £25 billion on commercial terms over the 12 months from March 2009 - £9 billion of mortgage lending and £16 billion of business lending and Lloyds will lend an additional £14 billion on commercial terms over the 12 months from March 2009 - £3 billion of mortgage lending and £11 billion of business lending. We will keenly watch the uptake of this scheme, as well as any lending criteria relaxation outside of the scheme.

DEATH PLEDGE LENDING
(mort~death, gage~to pledge)

So with £20bn on commercial terms of pledged new mortgage lending what does this mean for the realities of the residential market on commercial terms. The issue facing the market currently is that the retreat of lending loan-to-value (LTV), especially at the lower end of the market, means that larger deposits are required; this is proving particularly challenging in a recession at the end of a decade of credit, not savings.

The graphs below illustrate the scale of the challenge faced by buyers who are now recognising that the current market offers them a strong opportunity to achieve value.  In Q1 of 2007 and 2008 borrowers had access to loans of up to, and in excess of, 100% LTV, requiring little or no deposit to purchase a property.  In Q1 2009 we can see that at best a FTB will have to provide at least 10% deposit, although in reality 25% is a more common predicament.

Based on this lending situation we have taken a couple of examples to illustrate the realities of the market. In the past couple of years, working of the conservative basis of 90% LTV, the average first time buyer would have need to have saved in the region of £12k to enable them to buy a 1 bedroom flat in Gorgie / Dalry while the average remortgage would require around £21k for the average Edinburgh property. At the start of this year with 75% LTV being commonplace, the same FTB would need over £25k while the average buyer would be looking at nearer £50k, despite the fact that in both cases house prices have fallen significantly.

This now leads to the problem that whilst the extension of the CGS is hoped to unlock in excess of £20bn of new mortgage lending, it will have to be accompanied by higher LTV, as at current LTV this would require the property market to provide £5bn of its own cash to unlock this extra funding; potentially a tall order considering the current and future economic outlook, especially if you are sceptical of the government's optimistic forecasting and timescale for recovery.

SO DARLING...

In conclusion, this budget delivered little revolution of policy to aid the Scottish Residential Market, with most measures being announced either an extension of previous policy, inapplicable to Scotland or unlikely to impact the mass market in any dramatic way.

What is undoubtedly clear is that whatever Darling says, this is not going to be over quickly. It is going to be a long hard slog, with a lot of pain to come. For those of you who have tried to climb out of the Grand Canyon you will know what lies ahead.

House prices are, or should be, directly correlated with earnings and house trading to confidence. Un-employment is therefore critical.  As one commentator has pointed out, during the last three recessions (mid-70s, early 80s, early 90s) it took three years for unemployment to peak. Citi's predictions for unemployment in the graph below take us from today's 1.9m to about 3.4m - which will make about  6.5m on benefits in total - between a fifth and a quarter of the entire British workforce on the dole.

Cumulative Rise In Unemployment after the start of the Recession
(Millions of People)

With all this said, there is an awakening to fact that residential property is a fundamentally required asset that providing the basic provision of shelter; it is therefore being prioritised in both individuals and investors minds ahead of other assets and property classes which have more fickle demand profiles. This is one reason why residential property prices have only fallen in the region of 20% while other assets have seen drops in excess of 50%.

Therefore in our minds it is business as usual as we continue to see increasing levels of buyer activity and completing transactions as pent up deals come back to the market and both buyers and sellers adjust to the new reality; if nothing else this budget may highlight the stark reality of the situation and aid deal flow as any lingering denial is swept away. We are therefore optimistic that while this budget has failed to deliver on many of the hopes of home buyer and property professionals, and while we are sceptical over the government's recovery forecast, the continued easing of mortgage lending combined with stabilisation of market indices points towards a returning market.

At Rettie & Co. we aim to tell our clients what they need to know, not what they want to hear, and in this vein, with transaction volumes increasing and a market returning it will be realism not delusion that will best serve those involved in the property market in coming months.

A POINT OF CORRECTION - LIFT

Last week I mistakenly published an out-of-date link to the to LIFT Scheme Details, please find the correct link below. Apologies.

http://www.scotland.gov.uk/lift

CONTACT US

If you have any questions, would like any further information regarding the above content or would like to discuss how the Rettie & Co. Consultancy & Research Team can help your business, please do not hesitate to contact:

Andrew Meehan
Researcher
t: 0131 624 9051
e: andrew@rettie.co.uk

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