Outlook

The 1.5m+ transactions of 2021 was very high, but only meant about 5% of our housing stock changed hands. Our expectation that activity would remain strong as additional households took a view with longer-term work arrangements becoming clearer appears to have been substantiated. If anything, the performance of the housing market has surprised to the upside over the first half of the year.

We have certainly been surprised at how resilient the housing market has been in Q2 in the face of rising interest rates and the highest inflation levels we have seen in 40 years. However, we do believe these factors will ultimately lead to a significant slowing in the market later in Q3 and in Q4. The Bank of England has just predicted a five-quarter recession and we expect that the recession itself will be unlikely to reduce inflation enough on its own, so we will continue to see interest rate rises.

This would represent the first time the Bank of England has raised rates during a recession since 1975 and we also think there is a high chance they will rise higher than consensus forecasts and could well reach 3.00% by the middle of next year.

This rate rising cycle during a recession or very low growth environment will impact the affordability of monthly mortgage payments along with sentiment around house purchase decisions. Indeed, the main driver of the drop in the Building Society Association’s measure of buyer sentiment to a 14-year low in June was the rising cost of monthly mortgage repayments.

Having said this, we think there are other major factors which will help to support the housing market and this is why we expect growth to slow rather than a more dramatic fall in prices. The labour market continues to be very robust and despite interest rates rising, they remain low by historic standards.

Also, the Financial Policy Committee (FPC) has also just withdrawn the mortgage affordability test. In short, this means lenders can increase high LTV and high LTI lending, which will help to support affordability and buyer demand. There is a question as to what extent they actually do so but initial indications show a willingness with various lenders announcing new 90% LTV and 5.5x LTI products.

Looking at interest rates in more detail, if we consider the relatively (by historic standards) small rise in mortgage payments we expect by the end of the year, we can take some comfort from looking at previous housing market cycles in assessing the risk of a correction. The rise in rates this cycle will be much smaller than in the tightening cycles of the 1970s and 1980s. (See Table.) And although the rise in 2006-7 was smaller than the increase we expect this time, monthly affordability of mortgage payments was far worse at the beginning of that tightening cycle. And, currently the labour market is very strong, so we do not see an obvious trigger for anything other than a slow down to more moderate levels of house price growth at the end of the year. This is probably a good thing as reduces the chance of a more dramatic correction in the future.

The outlook for the rental market looks less nuanced. The RICS Residential Survey reported that a supply/demand imbalance continues to characterise the rental market in most regions. This is now most acute in London, which will continue to see some of the strongest growth in the coming quarters. In addition, deteriorating consumer confidence and affordability means people are less able and willing to undertake house purchases and will remain in the rental sector longer. The strong rental market will help underpin confidence in the Build to Rent sector which has had a record first quarter and we expect investment volumes to remain high.