In London, the total value of housing rose by 20% or £247 billion in 2014 alone and by 61% or £563 billion over the past five years and this has huge consequences for Londoners, whose finances are being stretched further and further as house prices continue to rise at a disproportionate rate to the rest of the country.?
According to the analysis by real estate firm Savills, this value gap simply cannot widen at this rate indefinitely, which is why the firm expects mainstream London to see just 10.4% growth over the next five years, compared to 19.3% across the UK as a whole.
Katy Warrick, London development researcher at Savills, pointed out that mortgage regulation is one of the main constraining factors to further house price growth.
‘This new lending environment is one of loan to income caps, stress testing of borrowers’ affordability and capital repayment requirements. Coupled with fast moving house prices against a context of limited income growth, this means higher deposits are required,’ she said.
‘Jump forward five years and we expect that prices will grow just 10.4%, as fewer first time buyers will have been able to access home ownership for these reasons,’ she added.
The analysis shows that at the end of the third quarter of 2013, a first time buyer household earning £53,000, the median in London according to the Council of Mortgage Lenders, could have afforded to buy a property worth £264,000 at 3.74 loan to income multiple with a 75% loan to value mortgage. This assumes they could raise the required £65,000 deposit. At prevailing interest rates servicing this mortgage would account for 21% of gross household income.
‘Over the course of 2014 incomes grew by 4%, and if we assume the same mortgage conditions as before our hypothetical buyer can now borrow £206,000 and afford a property worth £274,000. The amount they can afford has risen by 4%, but, as we have seen, house prices will have risen much more,’ explained Warrick.
In this example, the £264,000 house is now worth £320,000, resulting in a funding shortfall of some £46,000. ‘The options for buyers are pretty stark; find a much bigger deposit, borrow more money at an even higher multiple of income, or buy a smaller property or one in a less expensive area. The first two options may not be possible, the last may not be desirable,’ she added.
If the same example is taken into 2019, the property would be worth £353,000 while incomes will have risen by 22% according to Oxford Economics. Assuming loan to value ratios remain the same, the buyer could now obtain a property worth £324,000 with a £252,000 mortgage. This means that while the funding shortfall is reduced, it still sits at £29,000.
‘Even if that shortfall can be found, the costs of servicing the mortgage will have increased to 26% of gross income because of interest rate rises. This 26% is much higher than the 21% average of the past 20 years. Essentially, this would mean affordability would be as stretched as it was prior to the credit crunch,’ said Warrick.
If, however, the 2019 shortfall is added to borrowing it would be necessary to get an 80% LTV, 4.18 LTI mortgage. ‘This would mean that the cost of capital and interest repayments would shoot up to 29% of gross income. This is a level not seen since the affordability driven downturn of the early 1990s, so it is highly unlikely that this level of lending would be sustainable,’ she explained.
Savills says that these affordability considerations limit future price growth potential. While, annual price growth across all of London averaged 17.8% during 2014, the last six months saw just 1.6% according to figures from the Nationwide.
‘This indicates that we are already seeing some of these affordability implications play out. Together with the cost of the deposit which buyers need to accumulate, these also have implications for transactions levels. This will place more demand on the private rented sector or the hotel of Mum and Dad,’ said Warrick.
‘But, assuming local governments respond to the changing housing needs, it will also present developers with an opportunity to build for the private rented sector and develop the intermediate housing offering,’ she added.
The report also points out that despite these affordability issues there is still a shortage of new supply in London with less than half of the 50,000 new homes required in the capital every year currently being built.
‘This is one of the fundamental reasons why we do not expect average price falls across London in 2015, despite the recent change in sentiment,’ said Warrick.
The report says that for developers there will undoubtedly be pockets of hidden value which will see growth levels above the average, though it will require them to place significant emphasis on unlocking it through the nature and scale of the development they undertake.
