Why Rising Interest Rates Could Yet Undermine the Property Market

Considering the harsh economic winds and tumult that surrounds it, the UK housing market has actually performed pretty well through 2023 so far.

For example, house prices are only down by a nominal 3.5% when compared with the same time last year, while valuations actually rose slightly in June. Even the number of mortgage approvals increased slightly during May, as the market continues to show impressive resilience against the backdrop of stubborn inflation and marked interest rate hikes.

However, economists believe that this period could be little more than the calm before the storm, with a housing crash becoming increasingly likely if the central bank persists with its monetary policy of hiking the base rate as a way of combating inflation (especially if this continues to prove relatively ineffective).

But why has the property market resisted so far, and what could prove to be the tipping point for the housing market?

How is the Property Market Holding Up?

The recent performance of the UK’s property market has defied the economists worst-case predictions at the beginning of the year, with some suggesting that prices could fall by as much as 10% through 2023.

Of course, we still have to progress through the second half of the year, but for now the market remains in relatively robust health.

There are two key reasons for this. Firstly, Britain’s growing population continues to inflate the demand for housing, which the current supply is struggling to keep pace with. This is ensuring that prices remain stubborn and disproportionately high, while this trend is likely to continue in the short-term at least.

Secondly, the vast majority of homeowners are yet to feel the full impact of the central bank’s monetary policy, as they remain on fixed-rate mortgages that have so far been unaffected by the swathes of successive base rate hikes.

So, Could the Worse be Yet to Come?

The Bank of England has been embarked on its recent monetary policy path since December 2021, with the intervening period witnessing 13 consecutive base rate hikes.

The latest of these increased the rate by 50 basis points, from 4.5% to 5.0% (the highest such rate for 15 years and since the great recession of 2008).

As inflation remains stubbornly above 8% and considerably higher than the bank’s target of 2%, further hikes could be required going forward, creating obvious affordability issues for those on variable rate mortgages.

As for the 85% of mortgage payers on fixed rates, it’s anticipated that at least 400,000 will have to refinance each quarter in the coming years. These homeowners will subsequently be vulnerable to interest rate hikes in the near-term, with some 20% of the current fixed rate mortgage stock poised to refinance by the end of 2023.

In total, 40% will refinance by the end of next year, at which point, borrowers could see their monthly mortgage repayments rise sharply by £400 a month on average when agreeing new two-year terms.

So, although homeowners with variable rate mortgages are struggling at present, those with fixed rate products will start to feel the pinch over the coming 18 months. It’s this that could ultimately precipitate a true housing market crisis, even for those of you who reside in relatively affordable areas.

The Bottom Line

The financial markets are certainly forecasting further base rate hikes in the third quarter, with currency traders who leverage the best forex signals having priced interest rate rises of up to 6.5% into their forward planning.

Worryingly, the perceived tipping point for the housing market will occur when new or renegotiated fixed rate mortgage products start to peak at 7%, while this would also provide significant affordability issues for those who hold a variable rate mortgage agreement.

In the worst case scenario, this could see the housing market collapse early in 2024, which would in turn drag down the economy and send the UK spiralling into a technical recession.

This is something that the Bank of England will have to be aware of as they continue to push an aggressive monetary policy, especially given the stubborn nature of inflation on these shores and the unique factors that are currently driving this.