Despite a set back in prices since late 2007, UK house prices have not fallen by as much as might be expected. For example, UK house prices have not fallen by a similar amount to US or Spain.

House Prices Since 1960

Real and Nominal House Prices

Real house prices take into account the effect of inflation. Despite two house price crashes in 1991 and 2008, housing remains a good investment offering a good return in real terms. (In addition to capital gains also income from renting)

real house prices – series 2 (Red)

Nominal house prices – series 1 (blue)

Annual Percentage Change in House Prices

• House price forecasts 2012

Many factors are pushing house prices down:

1. House prices fell for four years during last slump

2. Economic Recession The recession continues to worsen threatening more unemployment and therefore more home repossessions.

3. Lack of Funds for Mortgages. The Banking Sector is still fragile after more bad debts exposed from credit crunch. Lending conditions likely to remain tight.

4. House prices still expensive. House price to earnings still higher than long term averages

5. Lack of Confidence as falling prices and recession put people off.

• Why House prices are falling

Related

• Housing Market Statistics
• Historical house prices
• Nationwide house prices

It means UK prices are still lower than at the end of the 2007 bubble. However, UK house prices have fallen much less than other European countries such as Ireland, Spain, and the US.

Double Dip Recession

In the past 9 months, the economic news has largely been depressing. Economic growth has barely managed to be positive and the outlook shows subdued confidence and low prospects for growth. Despite the weakness of the economy, there seems to be little on the horizon to boost growth and consumer spending power. Both manufacturing and service sector output have shown fragile growth. Consumer spending has been kept back by a combination of higher living costs, government spending cuts and negative real wage growth.

To make matters worse, there is little prospect of seeing a stimulus to the UK economy. Growth in other countries remains weak and there is little room for monetary of fiscal stimulus given high budget deficits and continued inflation. Against this backdrop, it is not surprising that householders aren’t rushing into buying a house. The threat of unemployment and falling real wages is enough to limit demand for buying houses.

Given the prospect of a double dip recession, falling real wages and government spending cuts (which entail job layoffs) you might expect to see forecasts of rapidly falling house prices. This is especially true given the continued persistence of high house price to income ratios. For first time buyers, house price to income ratios are still above historical norms, and almost double levels at the end of the 1990s slump (in 1995, house price to income ratios fell to 2.0)

However, the UK housing market is not typical of many other countries. The persistent shortage of supply remains; it gives a curious situation where we have weak demand but persistently high prices.

Euro Crisis and UK House Prices

The Euro debt crisis is proving much more serious than previously thought. There is a high risk of the EU being pushed into a recession. At the moment, there is strong pressure to pursue austerity measures (spending cuts) without any monetary stimulus. This is likely to lead to lower growth and therefore less demand for UK exports. Perhaps of greater concern is the exposure of European banks to government debt default. If a major country like Italy defaulted it would cause large financial losses throughout the EU banking system. This would have a knock on effect on UK lending and therefore make mortgages more difficult to get. This could push UK House prices down by 10%

Low Interest Rates in 2012.

Combined with the shortage of supply, we are likely to see the persistence of low interest rates throughout 2012. Given the weakness of the economic recovery, we are unlikely to see any demand pull inflation. Also the Bank of England are forecasting inflation to finally fall dramatically in 2012 – from a peak of 5% to close to 1%. Given this deflationary trend and low growth, low interest rates are likely to persist. This helps avoid mortgage default and makes it more attractive to buy rather than rent.

It is hard to find a parallel for such an extended period of low interest rates, but the same thing happened to Japan, and their rates have been low since the early 1990s.

Related

• Historical house prices
• Will house prices fall again?
• Interest rate predictions

House Price To Earnings Ratio for First Time Buyers

This graph shows the ratio of house prices to Income for first time buyers, source Nationwide data. It is interesting to see how far house price to earnings ratios fell in the mid 1990s. House price to income ratios are still much higher than at the end of the last housing bust.

House Price to Incomes Ratio in 2011

House price to incomes ratios are still relatively high. The fall in house prices has been muted by the scarcity of supply. Real wage growth has also been muted due to slow growth. There is also a large regional disparity with Londoners facing greatest difficulty in getting a mortgage.

Ratio of House Price to Incomes for Average Workers

• In 2003 Average household income in England was = £34,197 Average house price = £115,181
  House price to income ratio = 3.36
• In 2008 Average income was about £38,302 (1) Average house price =£197,000 (BBC)
  Therefore house price to income ratio about 5.1

• London average house prices 4.8 times income (2006), against 2.6 times in 1970.

• The South East, where the ratio has climbed to 4.3 times income from 2.7 times 35 years ago, is the second least affordable region.

House Prices and Mortgage Payments

This increase in house prices is reflected in the increased burden of mortgage payments

• Mortgage interest burden stands at 20% of gross income (up from 11% in 2003) (source Economist)
• Household debt now exceeds 150% of disposable income (this is another historical high)

Graph Showing Mortgage Payments as a % of Take Home Pay for First Time Buyers

Mortgage Affordability

The Impact of Rising House Prices to Income

The ratio of house prices to Income remains an important guide to long term affordability of housing.
However, it does not make it a perfect guide to future house prices. Just because the ratio of house prices to incomes have increased doesn’t necessarily mean a house price crash will occur.

Nevertheless, the rising ratio of house prices to incomes does raise some serious concerns.

Affordability of housing

Problems of Rising House Price to Incomes Ratios

• Social Mobility. A Rising ratio of house prices to incomes means that it is increasingly difficult for first time buyers (young people) to get on the property ladder. This means young people may have to live in cramped rented accommodation
• Labour Shortages. In areas of high house prices, the lack of affordability may lead to a shortage of key public sector workers.
• Potential for House Price Crash. It is argued that rises in house price to incomes ratios are unsustainable and could lead to a future crash in house prices.
• Encourages Risky Mortgages. To get on the property ladder, first time buyers are having to take out increasingly risky mortgages such as interest only, self-certification; these mortgages can increase the likelihood of mortgage defaults and home repossessions.

Predictions for Future House Price to Incomes Ratios

Some people have predicted that house prices to incomes could reach a multiple of 10 times. They argue this is based on the fundamental inequity between supply and demand. The Future: House Prices 10 Times Income – The Times

Personally, I am sceptical of this claims. How would people be able to afford mortgages if house prices were 10 times. The recent experience of the US, and more powerfully, Japan, show that rising house price to income multiples may be a constraint on future house price growth

Real and Nominal House Price

Sources

• Housing Market Statistics
• House price to Incomes BBC
• The Worst is yet to come for UK housing – Economist
• Household Income
• Housing Bubble - wikipedia
• Assuming growth of 2.8% of average incomes since 2003. Note there are different ways of calculating household incomes therefore there is some disparity between data.

Since the credit crunch of 2008, the number of homes built has fallen well below the level necessary to meet expected rising demand.

New Homes Built in UK

Source: ONS

The number of new houses built in the UK in 2010/11 was only 106,000. compared to 168,000 in 2007/08. The majority of new houses are built by private enterprise.  Although in 2010/11 the number built by local authorities increased from 320 to 1,570. But, it remains a small % of overall homes built.

• Private enterprise completed 79,460 houses.
• Housing associations completed 22,660

It is estimated that the number of households in the UK is expected to grow by 200,000 to 250,000 over the next decade. The rise in the number of households is due to:

• Rising population
• Immigration
• Smaller size of households due to divorce increased preference for living alone
• Ageing population more single old people.

The Barker report into UK housing (2004) found that housing shortages were the main reason behind the long term real house price increases in the UK. In 2004, the report said, the UK has experienced a long-term upward trend in real house prices of 2.4 per cent per annum (real house prices  adjusted for inflation) over the last 30 years. (Historical house prices) The report suggested that:

• To bring the real price trend in line with the EU average of 1.1 per cent an extra 120,000 houses each year might be required.
• The shortage of housing supply is another factor behind the volatility in UK house prices. This house price volatility has significant macro-economic implications.
• Barker report (web archive)

Problems to Increasing Number of Homes in the UK

• Planning regulations. At the moment, local authorities have considerable say in whether to allow new homes to be built.
• Local Opposition. There is often significant local opposition to using ‘green belt land’ for the purpose of building new houses.
• On a macro level there is agreement on the need to build more houses, but at a local level there is usually opposition to building new houses.
• Delays in planning process. The government is considering streamlining the planning procedure to make it easier to gain planning permission.
• Reluctance to live and build high density high rise flats in city centres. The 1960s experiment with tower blocks is widely considered a failure. Many of these tower blocks are being demolished increasing need for new home builds.

The fact the Barker report was published in 2004 shows that government intentions to build new houses are much more difficult to turn into reality. Since the report, the number of homes built has actually fallen rather than increase. The long term implications of this housing supply are higher house prices,

• declining affordability
• More difficult for young people to get on the property ladder.
• Intergenerational inequality. People who own houses will see increase in wealth compared to those who rent.

In the UK, the supply of housing is fairly inelastic; this means it is unresponsive to changing prices. The number of houses being built is relatively low, therefore, supply increases only slowly. This means that changes in demand for houses will be influential in determining house prices. A small rise in demand will cause a significant rise in price. But, also a small fall in demand will cause a significant fall in prices. (It is a myth that areas with shortage of supply cannot see falls in prices)

What Determines Demand for Housing?

1. Incomes. Economic growth and rising incomes means people can afford bigger mortgages so demand for housing rises. In a recession, with rising unemployment, people are much more reluctant to take on the risk of getting a large mortgage.
2. Interest Rates.  Higher interest rates increase cost of mortgage repayments and reduce demand for buying. If interest rates are low, demand for buying rather than renting will be high.
3. Number of Households. Rising population leads to increased demand. Also, the number of households can increase faster than the population. For example, in recent years have seen an increase in the % of single people households. Social factors such as rising divorce rates can influence demand for housing. Also net immigration has caused a rise in demand, especially in the South East.
4. Speculation. An increase in the number of buy to let investors mean that more homeowners are buying houses for the capital gains. Therefore in a property boom demand from speculators will rise. When prices start to fall, they will be keen to sell.  This makes the housing market more volatile and contributes to a boom and bust nature of the housing market.
5. Availability of Mortgages. If unconventional mortgage are freely available it enables people to take out bigger mortgages. This supports  a rise in the house price to income ratio. However, in a credit crunch there is a squeeze placed on mortgages leading to a sharp fall in the number of first time buyers who are able to get mortgage funding.
6. Affordability. If house prices increase faster than incomes, then it tends to limit the amount of people who have the capacity to get a mortgage. See: Ratio of house prices to incomes

Why House Price Fell 1991-1995

After several years of very rapid growth in the 1980s, UK house prices fell significantly between 1990 and 1995. Reasons included:
1. Higher interest rates.

A key factor was the decision by the government to increase interest rate to try and tackle inflation. Home-owners saw their mortgage payments nearly double, meaning many had to sell. Higher interest rates also discouraged others from buying. The rapid rise in interest rates was a key factor in the drop in house prices.

2. Recession

During the 1980s, the UK economy was booming, with record levels of economic growth. However, this changed in 1991 as the economy fell into recession and unemployment rose close to 3 million.

3. Change in Expectations

The boom years of the 1980s, encouraged optimism about the future direction of house prices. Buying a house seemed a good way to increase wealth; this encouraged the investor and speculator to get involved in housing market. But, with high interest rates, and a plunge in prices, this changed radically – encouraging people to try and get out of property market.

4. Over-valued

One reason house prices fell so rapidly is that by the end of the 1980s, house prices were increasingly expensive and unaffordable, it required a high % of your income to buy a house.

Why House Prices Fell in 2008

Again in 2007-08, UK house prices had become expensive. House price to income ratios, were close to record levels. In 2008, there wasn’t an increase in interest rates. But, the global credit crunch caused banks to become much stricter with mortgage lending. Banks cut back on the amount of mortgages available, and demanded a bigger deposit. This limited the numbers who could get a mortgage.

• Also, a deep recession discouraged people from buying.
• House prices recovered in 2010 – quicker than in 1990s, this may have been due to the fact interest rates were very low, meaning mortgage payments were reasonably affordable.

Related

• Main factors that affect house prices
• Why House prices are falling

Will there be a housing boom in your area?

What factors drive a localised boom either for new build or to generate above average prices.

Environmental issues and a countryside feel affect local prices. Improved access to water such as canal-sides or seascape views have still got the power to move house prices upwards.

What to some may be negative environmental issues are just the opposite. Sport access is driving prices around the Olympic park. Football stadiums are including prestigious apartments in the planning and rebuilding programmes.
Beware wind farms and other potential developments on greenfield sites.

Communications can create niches of property price boom. The access to a new railway station or provision of better services in a commuter zone can push up demand quite considerably. Just the recognition that a commute is practical can boost a sleepy zone to a boom zone.

Improved road schemes are fine as long as they are not too close and there is access plus parking near the ultimate destination. The availability of high speed  broadband is now a necessity rather than an option. In some more rural areas the zone with the best broadband connections will win out over the slower ones.

Social Issues including popular school catchment areas can stimulate a pricing boom.
Gentrification or conversion of a depressed area by renovation and influx of new often younger residents is one of the most powerful boom indicators. If you see an opportunity get on board early for the best returns.

Apartments in City centres have catered for some of the ‘singles generation’ but beware the trends may be short lived. When the singles move on will the demand be sustained.

Retirement and second home areas are likely victims of the need to work longer and cuts in public sector pensions. Socially people in similar circumstance cluster together but this may not be enough to create a boom.

Economic Issues have long driven housing prices and costs. The North Sea oil exploration boosted Aberdeen and may do so again in the next few years.
London is still the target investment area for foreign buyers and prices in niche areas continue to rise.

Traditionally new build has seen a significant rise in value after 18-36 months occupation. This will happen again particularly in the smaller developments that also tick the communication, social and environmental boxes.

Comment

• Booms are likely to arise in tight selected areas. Allow your research and vision to guide you.
• Do not buy because you expect a boom (the lottery may be safer). Buy because it is the home you want where you want and need it to be located.
• Think outside the box to preempt changes in local conditions.

London

• In some areas it is like there has been no recession. South of the river will be next.
• A new American embassy near Battersea power station will bring in the dollars.
• Wandsworth has some top performing state schools that has already attracted so many house buyers that it has been rechristened Nappy Valley.
• Hot Spots of Wandsworth already include; The Toast Rack, The Tonsleys and  Nightingale Triangle (Americans will feel as though they never left Berkly square).

Related Links

House Price Hot Spots in Housing Market

Rich List Villages in Prime Country market

UK House prices since 1960

Volatile House Prices

Why Are UK House Prices so Volatile?

• Households very sensitive to changes in interest rates. Some FTB pay 50% of take home pay in mortgage payments. Therefore small change in interest rate makes big difference to desirability of buying house.
• Volatility of Bank lending. Credit crunch completely changed mortgage market making banks reluctant to lend. This led to the withdrawal of many types of mortgages and required First time buyers to save a bigger deposit.
• Confidence. Expectations of future house prices play a key role in influencing decisions to buy or sell. If people expect falling house prices it can become self-fulfilling. Especially important for buy to let investors.
• Inelastic Supply. Changes in demand cannot be met by changes in supply. The UK struggles to build houses when and where they are most needed. With a small number of new homes on sale, this tends to push up prices quickly. It can also lead to sharp falls in prices.

volatile house prices

Looks increasingly like a double dip. Shows how volatile  and unpredictable UK house prices are.

House Prices Adjusted for Inflation

Real Nominal

Real house prices are adjusted for inflation.

Related

• Why Boom and Bust in Housing Market
• Solutions to problems of housing market

According to the Halifax, during September 2010 there was the biggest fall in average house price (3.6%) for over quarter of a century 28 years. In our locality the prices are still dropping in October, and with that backdrop why should anyone buy right now?

Factors Reducing House Prices

• More sellers than buyers. Very weak buyer demand.
• Distressed selling is becoming more prevalent particularly at the higher end of the market.
• Baby boomers and the inheritance generation are starting to liquidate assets as parents downsize, die, move to sheltered accommodation or just look to boost pension income.
• The financial squeeze and lack of consumer confidence may make matters worse. In particular, the prospect of spending cuts in 2011 is raising fears over a prolonged economic slump. Many jobs could be lost in the public sector with knock on effects.
• The mortgage and remortgage market remains in turmoil. In particular proposed mortgage regulation could make it even more difficult to get mortgages. For example, proposal to end interest only mortgages.
• As prices drop the equity against a mortgage drops and it is harder to remortgage.
• New property has come onto the market and has yet to become fully occupied.
• Buy to let investment has dramatically slowed down.
• First time buyers have lost confidence and have less savings for a sizeable deposit.
• The housing market is very nervous.

On the Plus Side

• House prices defied expectations in 2009 and early 2010, indicating the UK still has an underlying shortage relative to population.
• Very low interest rates which have increased mortgage affordability are likely to persist for foreseeable future

Possible Price Movements

• Further reductions are likely in 2010 even if that is only by price negotiation on the advertised price.
• The Chancellors ‘cuts and savings package’ may help draw a line under the steady fall in house prices but there is no visible reason for a bounce in house prices.
• Stimulus from government via planning, stamp duty or easing measures is unlikely in the current climate.
• The RICS lead indicators point to a narrowing of the gap between supply and demand which may offer stability in the second half of 2011.
• Prices will get to a position where the ‘traders up’ can strike a good deal particularly if they pre arrange a mortgage.

Buyers

• Choice has increased but there is still shortages in some types of property.
• Fair prices are now within reach and some deals look very good value compared to old valuations.
• Those able to do a quick deal should benefit as weak chains are still a serious concern to sellers.
• New build is worth considering as builders want to continue completing stock that is in the pipeline

Sellers

• Make your offer attractive to those who must buy now.
• If you are a distressed sale you will have to accept the best offer but hanging on may mean waiting 18 months or more before you get the deal you want.
• Properties that are fit and ready to move into will score over those needing refurbishment and repair.

House Price Earnings Ratio

This shows the ratio of house price to average earnings for first time buyers. Although first time buyers is only a segment of the market, the trends are indicative of wider trends in the ratio of house prices to earnings.

As expected, the ratio of London house price to earnings is higher than the UK average. This is despite London having higher wages than the UK average. The relative shortage of space for new houses, means house prices in London have been pushed up to over 7 times average earnings at the peak in 2007.

The long term average for house price to earnings ratio is 3.5.

In the last boom of the late 80s, the ratio got close to 5.0. This meant that 2007 set a new record for house price to earnings ratio.

Despite fall in the house price to earnings ratio it still remains above the long term average.

Is it possible for House Price to Earnings Ratios to Increase in the Long Term?

Long Term House Price to Earnings Ratio (FTB)

House price to earnings ratios could increase in the long term if:

• There was a period of stable and low interest rates, reducing the cost of mortgage interest payments.
• If parents increasingly give deposits to children to enable them to buy more expensive houses.
• If there is a continued shortage of housing due to restrictions on building new houses and continued growth in number of households.
• If banks are willing to lend mortgages with bigger income multiples or if banks / government encourage more – part rent / part buy schemes.

The Credit crunch of 2007-09 caused banks to abandon their previous reckless mortgage lending. 100% mortgages and mortgages 5 times incomes were quickly removed as banks ran out of funds to lend. There may seem little prospect of banks returning to this kind of lending, but, that’s probably what people thought in 1995 after last crash.

Problems of House Price to Earnings Ratio.

Just because the long term house price ratio could increase, doesn’t mean it will. If it does increase, it creates various problems:

• More difficult for young people to get on property ladder.
• Higher % of Income going towards cost of mortgages
• Re-distribution of income from young to old.
• Buying a house may depend on having generous parents.
• Increased pressure to take out risky mortgages several times income.

House Price statistics

This difference is of vital importance for people considering putting an offer on a house.

Hometrack found that in March 2009, on average, sellers were receiving 88.8 per cent of their asking price. Slightly higher than the all time low of 88.3% in Jan 2009. This is still a big discount. For a house on sale for £200,000 = £177,600.

The variance between asking and selling price can vary significantly between different regions of the economy.

In a period of rising house prices, this difference invariably narrows as people have to offer more. The difference between asking and selling prices often reflect the time lag between putting the house on the market and selling it.

Currently the average time on the property market is 11 weeks. So in a period of falling house prices, market prices are falling during the long wait. The longer you take to sell, the lower offers you will receive. This is why it is advised to always set a realistic asking price rather than try to remember past values.

For buyers, it is crucial to have an awareness of current selling prices and asking prices to help you make the right offer. It is worth finding out how much house prices actually go for. In the current climate, you could be saving yourself 10-15% on the asking price – a big saving!