April 30, 2008 | posted by Michael Baxter in House prices |

Strap yourself in. This is not going to be pretty.

House prices are now 4 per cent down from October last year, according to data from the Nationwide.    But that is just the beginning. Yesterday also saw the news that one of the leading players in the buy-to-let market has gone into administration, while a report from the Bank of England revealed that mortgage approvals have fallen to a record low.    Hometrack also revealed an annual fall in house prices recently.   But the real fireworks came from a member of the Bank of England Monetary Policy Committee (MPC), who warned yesterday that house prices in the UK could fall by a third.

The latest piece of news to coat the fans came from the Nationwide.     It had house prices down by 1.1 per cent over the month, its sixth successive month of price falls, while at the same timed recorded a 1 per cent drop on last year – the first annual fall it has recorded since March 1996.     Over the last quarter, prices fell by 1.8 per cent from the previous quarter, and a quick punch on the calculator reveals that the average house price in April, which the Nationwide recorded at £178,555, is now 4 per cent down on the peak price seen last October when average levels hit £186,044.

As for Hometrack, it too recorded falls, although they were altogether more sedate.

It has prices down by 0.6 per cent from March, and by 0.9 per cent on last year.  Curiously, however, it is not yet recording falls that are as great as those seen in 2005.  Apparently the annual fall is merely the lowest year-on-year drop it has recorded since January 2006.

As is its wont, the Nationwide tried to finish its latest report on a positive note.   Its chief economist Fionnuala Earley was quick to point out that while around 1.4 million mortgage holders will see their fixed rate deals come to an end this year, this will still leave  around 85 per cent of borrowers who will be seeing no impact or will benefit directly from reductions in the Bank Rate this year.

“This is good news,” she said, “for the overall stability of the housing market and is a significant factor that differentiates the housing market of today from that of the late 1980s and early 1990s. Back then a much higher proportion of loans were on variable rates and as a consequence were hit very quickly by the sharp increase in the Bank Rate in the late 1980s. This was a major factor behind the collapse of the market in the 1990s. Even after fixed rates became more popular in the early 1990s, by 1994 87 per cent of all borrowers still had a variable rate mortgage.

“In contrast, today about half of the stock is on a fixed rate and so not affected by changes in the Bank Rate, while a large proportion of remaining borrowers are benefiting one for one from cuts in the official rate. This means that as the MPC has cut rates, the effective interest rate on outstanding mortgages has fallen since the end of 2007, even though some rates on new business may have risen. The underlying conditions for most mortgage borrowers are therefore more positive than some would suggest.”

Yet, the facts really do speak for themselves.      According to the Bank of England, mortgage approvals for house purchases fell to 64,000 in March – compared with 115,000 last May and over 130,000 in 2004.    This is the lowest level of mortgage approvals since April 1993.  In fact, it seems that if anything, the figures understate the true comparisons with the early 1990s, as data for approval levels for house purchases only goes back to 1999.   Before that, the Bank of England did not separate mortgage approvals for house purchases from re-mortgages.    Bear in mind also that anecdotal evidence suggests April was far worse.

Yesterday also saw the announcement that Inside Track, which organised investment seminars for potential buy-to-let investors, which it promoted via massive advertising campaigns, has gone into administration.

But the real blow came from David Blanchflower, arch dove on the Bank of England MPC.

“In my view, a correction of approximately one-third in house prices does not seem implausible in the UK over a period of two or three years if house price-to-earnings ratios are to be restored to more sustainable levels,” he said yesterday.

“I am not suggesting that such a drop will necessarily occur, but it may,” he said.

Mr Blanchflower is the MPC’s most enthusiastic advocate of rates cuts.    He has voted for a cut in interest rates in every MPC meeting this year, and even last year, he voted for rates cuts 4 times – and only voted once for a hike in rates, this despite the fact that 2007 saw three increases in Bank Rate and just one reduction.

In one respect though, both Mr Blanchflower and Ms Earley agree.   The idea that falling house prices could lead to a sharp fall in consumer spending is “very plausible”, said Dan the dove.    While the Nationwide’s chief economist said, “Although retail spending has so far been remarkably resilient as the housing market has faltered, lower house prices are likely to weigh down on the consumer over time. In recent years, rising house prices appear to have boosted overall consumer sentiment and made housing equity available for consumer spending. With house prices no longer rising, consumers are likely to become more cautious in their spending habits, contributing to a weakening of the overall economy.”

Yet, Ms Earley still predicts what she describes as a modest fall in house prices of around 5 per cent this year.     She talks about underlying strong economic fundamentals, and how no one is talking of a possible recession.

Mr Blanchflower, however, said, “I believe that we face a real risk that the UK may fall into recession, and aggressive action is required to prevent this from occurring.”

It does seem that most of the property industry seem to have failed to grasp the importance speculation has played with house prices for the last few years.

So convinced were the British public that house prices were set for steady year-on-year rises that first-time buyers felt desperate to get a foot on the so called property ladder.   Buy-to-let investors, seduced by the magic of leveraged investing, bought properties, even if rental yields were not sufficient to cover their total costs – including mortgage payments.

There is a danger that as expectations change to negative, then this speculative motive will unravel and go into reverse.

Some buy-to-let investors may reason that if there is a chance of a 30 per cent drop in house prices, the best thing to do is sell all investment properties, and re-buy when prices have fallen.

It will only take a small minority of buy-to-let investors to follow that reasoning, for their fears to become self-fulfilling.

This is why there is a chance that house prices may see much bigger falls than are widely being predicted.