Property owners wait for sub-prime crisis to hit home

As the credit crunch spread to take a grip over Northern Rock yesterday, homeowners were left to wonder whether the crisis may yet take its toll on the UK housing market as well.

Shares in many of the country's largest housebuilders plummeted as much as 10 per cent, while several rival lenders continued to increase their tracker mortgage rates – raising the cost of borrowing for new homebuyers.

And it emerged that UK house prices suffered their sharpest drop since January 2002 – by 2.6 per cent from August – according to a Rightmove survey.

The situation is now certainly finely balanced. So far, most of the problems have been confined to the "sub-prime" end of the mortgage market – with lenders becoming increasingly reluctant to hand out loans to those with poor credit ratings or low incomes. This sector was, after all, where the whole crisis began in the US a few months ago.

Over the last few days, however, the effects of the credit crunch have finally begun to trickle over into the mainstream end of the mortgage market; with banks such as Halifax and Abbey raising the rates on their tracker loans.

The situation surrounding Northern Rock now raises the possibility that lenders will be forced to not only increase their rates in the mainstream market, but will be forced to reject all but the very best quality mortgage customers. And if credit for homebuyers becomes more difficult to come by, this will inevitably have a negative effect on house prices.

"Northern Rock apparently supplies some 23 per cent of all mortgages in the UK," said Simon Denham, a director at Capital Spreads, "and if this disappears and the other banks pull in their horns a little, we could be looking at a 50 per cent reduction in new mortgage lending. That would certainly put a cat amongst the pigeons in the housing markets."

Fionnuala Earley, the chief economist at Nationwide, said that while she does not expect the crisis to push house prices into negative growth just yet, she acknowledges that in a worst-case scenario, the credit crunch could end up prompting a crash.

"At the moment, we expect house prices to cool, but we wouldn't expect there to be annual falls. However, if the credit crisis continues, and affects unemployment, then that would have a very different outcome."

Ms Earley points out that the financial services industry is the biggest contributor to the UK economy, and concedes that if the credit crisis worsened, it could end up with companies making lay offs and increasing unemployment levels. Once people at the quality end of the mortgage market struggle to meet their payments, the ground would indeed be laid for a housing crash.

For the moment, the major banks are still lending freely to good quality mortgage customers – even granting loans of as much as five or six times their clients' annual salary. And while tracker mortgage rates have been rising for new customers, fixed rate mortgages have fallen.

This is because banks finance their variable and fixed-rate mortgage deals differently. Fixed-rate deals are usually financed in the swap markets, where borrowing rates are much more heavily influenced by movements in the Bank of England's base rate.

The base rate is currently at 5.75 per cent, and after the publication of recent inflation figures that came in lower than expected, swap rates have fallen, indicating that the markets expect the next move in interest rates to be down.

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