The impact of higher borrowing costs on the housing market – BuyAssociation Group

The average five-year fixed mortgage rate has risen to 6% for the first time in three years.

The conflict in the Gulf has driven up energy costs and inflation, increasing expectations for interest rates and the wholesale swap rates lenders use to price fixed mortgages.

Although the Bank Rate remains at 3.75%, three of the nine members of the Monetary Policy Committee voted for a rise to 4% at the Bank of England’s September meeting. And Governor Andrew Bailey has warned that the longer higher energy prices persist, “the more likely it is we will need to raise Bank Rate”.

The financial markets are now pricing in further increases. Capital Economics and Oxford Economics both expect Bank Rate to rise to 4% in November and 4.25% in February.

Mortgage rates are expected to rise further in the near term and property economist Adam Lawrence expects limited-company five-year fixes to reach around 6.5% within six months.

Affordability improvements

At the same time, however, slower house price growth has made property more affordable relative to earnings.

Lloyds’ affordability research shows average earnings rose 4.5% over the past year, compared with house price growth of just 0.5%.

As a result, the average UK home now costs 7.3 times average earnings. That’s down from 7.6 a year ago and is the lowest the ratio has been since 2015.

This has helped offset some of the rise in mortgage costs and may help explain why the housing market has remained relatively resilient.

Housing market resilience

Lloyds’ latest House Price Index reveals UK house prices were unchanged in September at an average of £298,441, after a 0.3% fall in August. Prices were also unchanged compared with September last year and just 0.2% lower over the latest quarter.

The bank’s mortgages director Andrew Asaam says: “While higher mortgage rates and wider economic uncertainty are encouraging some people to take a more measured approach, new enquiries from prospective buyers are now at their highest since February.”

The average five-year mortgage rate, though, only reached 6% at the beginning of October, so the full impact of the latest increase will not yet have fed through into September’s house price figures.

Royal Institution of Chartered Surveyors (RICS) data provides an earlier indication of current market conditions because it comes from the start of the sales process, rather than Lloyds’ data, which comes towards the end.

Subdued activity

RICS reports its results as net balances. A negative figure means more of its surveyor members reported a fall than an increase.

The balance for new buyer enquiries fell from -18% in August to -22% in September, but is still well above the -41% recorded six months earlier.

Agreed sales slipped from -16% to -18%, and expectations for them over the next three months were down from -3% to -6%.

And substantially more surveyors are now reporting falling prices than increases, with RICS’ house price balance dropping from -28% to -32%.

Although respondents expect downward pressure on prices to persist in the short term (-24%), the 12-month balance was zero, with no overall expectation of either rising or falling prices.

Fresh headwinds

RICS head of market research and analysis Tarrant Parsons directly links the falls to borrowing costs, saying the renewed rise in interest rate expectations has created “a fresh headwind for the housing market”, with buyers becoming more cautious and sales losing momentum.

Zoopla’s September research paints a similar picture. The property portal calculates that, for a typical buyer with a 25% deposit, higher borrowing costs since January have added around £150 a month, or £1,800 a year, to mortgage repayments.

Sales agreed were 9% lower than a year earlier, despite new listings being 3% higher, leaving 5% more homes available for sale.

But Zoopla still expects around 1.1 million sales this year and house price growth of around 0.5% by the end of 2026. Like RICS, it says demand remains, but buyers have become more cautious and selective.

And Capital Economics senior UK economist Ashley Webb believes the drag higher borrowing costs will exert on activity will be “a bit bigger and last longer” than expected. The consultancy forecasts average mortgage rates for new loans of around 4.8% at the end of this year.

A turning point

If mortgage rates rise much further over the coming months, the pressure on house prices and activity is likely to increase. If instead there is a sustained easing of tensions in the Gulf, the outlook for borrowing costs and the housing market could improve significantly.