Tag: Mortgage Stress

DFA On Ross Greenwood’s Money Show Discussing Mortgage Stress

Following on from the Nine coverage of our mortgage stress analysis, Ross Greenwood and I discussed our stress findings last night on his 2GB radio show. You can hear the entire discussion, courtesy of 2GB.

Here is the stress map for the Sydney region, showing the changes in stress levels from today, compared with an average mortgage rate sitting at 7%. The darker blue colours are where the most significant changes are expected to impact. You can read about the DFA modelling approach to mortgage stress here.

SydneyStressChange

Mortgage Stress Coverage on Nine

Last night Ross Greenwood ran a piece on Mortgage Stress, using the DFA Mortgage Stress Data, which we had recently updated to take account of the latest economic data and surveys. You can watch a video of the report, courtesy of NineMSN.

I covered the results of the updated modelling recently, and you can view some of the stress maps on the blog.

MortgageStressSept2014My point is that even at current low interest rates, some households today are already finding it hard to make ends meet, but should mortgage rates rise, (the long term average is a rate of around 7%, not the current 4.5%), then the number of households in difficulty would increase significantly in specific areas of some Australian cities. This flows on to dampening economic activity, and lower house prices, and links directly back to yesterdays data on real income falls in some segments. Those who are first time buyers, or young families are most exposed. In our surveys we found that less than half these households had a firm grip on their income and expenditure, and many of these did not run a household budget, relying on credit cards to plug the gap. Recent media coverage of DFA work is listed elsewhere on the blog.

Mortgage Stress Coming To A Household Near You

We have updated our mortgage stress models, to take account of the latest tranche of economic data, including falling real incomes, potential uplifts in capital requirements and inflation running hot, so creating the need to lift interest rates; and demand for property continuing to go ahead of supply. Our recent post the Anatomy of Mortgage Stress explains our modelling assumptions, and importantly the definitions of stress we are using. We also explained why households are highly vulnerable to mortgage stress, because of larger loans, and flat incomes in our article If The Worm Turns. Today we will look at our projections out to 2017, once we factor in these various drivers. It is only one scenario, but this is our central case.

We use a series of questions to diagnose mortgage stress focusing on owner occupied households. Through these questions we identify two levels of stress – Mild and Severe.

  • Mild = households maintaining repayments, but by reprioritising expenditure, borrowing more on loans or cards, and refinancing
  • Severe = households who are behind with their repayments, are trying to sell, are trying to refinance, or who are being foreclosed

First we will look at the Australia-wide projections. We expect to see stress amongst first time buyers lift considerably from its current relative low levels. If rates do rise, unemployment stays high, and incomes continue to languish, then by 2017, we think that 40% of first time buyers will be in mortgage stress. Many who brought in the 2008-2009 boom are likely to be hardest hit. More recently the number of first time buyers has fallen to a long term low, so the number of more recent first time buyer households in stress will be lower.

MortgageStressSept2014We can look at the state variations. We see that VIC and QLD first time buyers are more likely to be impacted, whilst SA households less so, with WA and NSW first time buyer households sitting in the middle. This is partly a function of absolute house prices, and partly a function of income and unemployment trends across the states. We did not include the smaller states on the chart, but they are included in the average.

MortgageStressFTBSept2014Finally, we look at the other, non-first time buyer households. Many continue to pay more than the minimum monthly mortgage repayments, taking advantage of the current low rates so they have some protection. However, as rates and unemployment bites, some households who have held property for some time will also experience stress. By 2017 up to 15% of established households will be in stress in our central scenario.

Our research suggests there is an 18 month to 2 year grind between the onset of stress and households taking bold steps (or forced to) like selling up. Before that, they often get into the debt cycle of more credit card debt, refinancing, and a general hunkering down to try and keep the mortgage payments going. It is the broader economic impact of this refusal spend which will have a significant dampening impact on economic growth. In addition the outworking of stress leads to selling a property, so we would expect to being to see some forced sales in 2017 and beyond, another reason why we think house prices are likely to correct to more normal loan to income ratios.

In coming posts, we will look further at the state and postcode level data.

NSW First Time Buyer Trends From 2002

As part of our household surveys we have been examining the state of play for NSW first time buyers since 2002. In our research we have identified the year in which they purchased, whether they subsequently refinanced, or moved on, and how many of these households are currently having difficulty in finding a lender to refinance with. To be clear, this is a snapshot, as at August 2014, across multiple cohorts.

The data shows, firstly the monthly volume of loans written for first time buyers, peaking in 2009, and now languishing at a 20 year low. Next we plot, by age of the purchase, what proportion of households have subsequently either refinanced an existing loan, or sold and bought elsewhere. Perhaps it is not surprising that loans which are older, are more likely to be churned. The yellow trend line shows the proportion of households, by year of origination who have tried, but have not so far been able to refinance their loan. We see a significant peak in loans written in the 2009 boom time (when first time buyer incentives were at their peak, both at a federal and state level in a response to the GFC). More recent loans are less likely to be churned, so we see the drop in recent month. This suggests that there are a number of households in the 2009 and 2010 cohort who are in some strife.

First-Time-Buyers-NSWWe also analysed data on their current levels of mortgage stress, and their loan to income (LTI) ratios. We found that the average LTI grew steadily through the 2007-2012 cohorts, and currently stands at close to 6 times current gross income. We also see a peak in mortgage stress, in those households who took a loan in the 2009-2012 period. The proportion in mortgage stress are lower in the cohorts before and after this period. Once again the data highlights potential issues in specific cohorts, who are highly sensitive to unemployment,  falling income or rising rates.

First-Time-Buyers-LTI-NSWThis data also is a warning, that first time buyer incentives can pull households into the market, and lay potential long term problems for them.

Real Incomes Go Backwards

The ABS published their Wage Price Index to June 2014. In seasonally adjusted terms, both the Private and Public sector wage price indexes rose 0.6%. The rises in indexes at the industry level (in original terms) ranged from 0.1% for Accommodation and food services, Public administration and safety, and Arts and recreation services to 0.9% for Mining. The trend index and the seasonally adjusted index for Australia rose 2.6% through the year to the June quarter 2014.  Rises in the original indexes through the year to the June quarter 2014 at the industry level ranged from 2.0% for both Wholesale trade and Professional, scientific and technical services to 3.2% for Education and training.

We see a consistent falling trend in income growth, since 2010.

 
Income-Growth-to-June2014Looking at the impact after adjusting for inflation, real effective incomes are now falling.

Adjusted-Income-Growth-to-June2014This is significant and serious. Many households have taken on the burden of large mortgages assuming that whilst they will experience short term pain, their incomes would grow, so easing spending pressures. This however is just not happening. Consider this updated data on household Loan To Income ratios (LTI). Some households have an effective LTI about 5 times. This is very high.

LTIAllStatesUpdatedIn our surveys, we find that some segments are particularly exposed. The worst is in our Growing segment, these are younger families, many of whom are first time buyers, or recent up graders. As a result mortgage stress is high, and growing in this group, even at current low interest rates.

LTIAllStatesGrowingUpdated2

These pressures help to explain why many households are not feeling very confident, and are reacting to rising energy, child care and school fees, falling real incomes, and rising mortgage stress. The most affluent households are least impacted.

If The Worm Turns, What Happens To Household Mortgage Stress?

The wind appears to be changing. First the new head of APRA warned at a CEDA event they were watching the mortgage lending of the banks closely, “The Australian banking system clearly has a concentration of risk in housing. If anything was to go wrong in the housing market it would have very severe impact on the viability and health of the banking system, so it’s naturally something we watch very carefully.” Meantime in London, Treasury Secretary Martin Parkinson spoke to Chatham House where he mused on the low interest rate strategies being adopted by many countries, the limits of monetary policy and the potential for macroprudential measures. Locally, whilst fixed rate mortgages are being offered at record lows below 5%, the consensus appears to be shifting towards a lift in rates in Australia, partly as a result of rising inflation, although timing is not certain. So, what is the potential impact of a rate rise on Australian mortgage holders, bearing in mind that the average loan to income is stretched? How far would rates rise? Where would the pain be felt most?

To answer these questions, we have examined interest rate trends, and incorporated a rising rate scenario into our mortgage stress models. First, let’s look at rate trends. This is a plot of the RBA target rate since 1990. If we take a linear average, we see that currently we are well below the “neutral” range. An RBA rate of 4-4.5% would on this basis be a neutral rate. This is the first assumption I have made in my stress modelling.

RateTrendThen we have to estimate the spread above the target rate the variable rate mortgage will be coming in at. We still have most households on a floating rate, although 15% are locking in fixed at the moment. This plot shows the target cash rate, against the spread between a CMT deposit account and a standard variable mortgage. Lets assume an average uplift of 300 basis points. That would put the mortgage rate at about 7%.

RateSpreadTrendNow, we will assume rates will be lifted to this level in the next 12-15 months. We will also assume that income rises at the level it has in the past 2 years, and that unemployment stays at 6% (to isolate the effect of the rate movement). We then calculate for the 26,000 households in our survey the impact on their income/expenditure if their mortgages do rise. The impact is of course immediate, unless households are on a fixed loan. This is incorporated in the modelling. Now, we calculate the proportion of households which will be in mortgage stress in 18 months time (see the definitions we use here). Lets take Sydney as an example.  This geo-mapping shows where the main movements are in terms of increases in mortgage stress. The blue postcodes are worst hit. Many of these households are in the western suburbs, and are typically younger, and on lower incomes. Many are first time buyers.

SydneyStressChangeMortgage stress does not mean an immediate crisis, but households hunker down short term, and it is a warning of trouble ahead because many households who get into difficulty are ultimately forced to sell. My read on this modelling is that if rates rise, the impact on the property market could be quite profound. This in turn does indeed lay potential bear traps for the banks, because of their high leverage into property. There is a strong case to lift the currently relatively low capital rules for the big four, to provide a buttress against rising rates, and to avoid financial stability issues. The recent FSI interim report touched on this. If rates do indeed start to rise, we will need to be alert to the issues. Actually, the regulators should have been acting sooner, as the genie is now out of the bottle. We will publish data on this scenario for other states another day.