(Repeat for additional subscribers)
June 27 (The following statement was released by the rating agency)
The Bank of England's decision yesterday to set restrictions on mortgage borrowing is a tentative first step in using macro-prudential tools to temper the credit cycle, Fitch Ratings says. The BoE is testing its tools in the mortgage market, but the policies are likely to have limited impact on lenders in the short term.
The new affordability test and income multiple cap are relatively low-impact tools for the Financial Policy Committee. No loan-to-value cap or risk-weight floor has been introduced and the countercyclical buffer is set at 0%, so the policies do not give the banking system additional ability to absorb future mortgage losses as such.
The FPC does not believe household indebtedness poses an imminent threat to stability, so its recommendations are pre-emptive. The measures are aimed at reducing the risk of a rise in the number of highly indebted households, and so have more to do with positioning the economy for forthcoming interest rate rises than protecting the banking sector directly.
We do not expect material changes to banks' mortgage originations from the measures, over and above the mortgage market review requirements. The requirement to stress test affordability at 3 percentage points above the interest rate level for five years is already in line with lenders' existing practice, as they factor in a rising rate scenario. The affordability test is therefore likely to affect mortgage origination more when interest rates increase.
The cap on restricting loans with high income multiples (above 4.5x) to no more than 15% of a bank's total number of new mortgage loans is unlikely to constrain most lenders. The proportion of new mortgages to borrowers with loan to income (LTI) greater than 4.5x rose to an average of 11% in 1Q14, according to the BoE, and so was within the limit. Buy to let, lifetime mortgage, equity release, second charge and further advances are excluded from the restriction.
But there may be shifts in banks' portfolio mix. Regional differences mean that London borrowers may be affected because 19% of their loans fall into the high LTI category, according to data from the Council of Mortgage Lenders. Lenders have historically allowed higher LTIs for higher-income borrowers, but the 15% limit based on number of loans means a lender might decide to ration its high LTI lending in favour of those borrowers at the expense of lower-income customers. The cap does not appear to differentiate between single- and dual-income couples either, even though joint-income mortgages are typically extended at lower multiples.
The FPC has the powers and tools to require additional buffers for banks to offset any rise in risks from housing market growth partly fuelled by help-to-buy and funding-for-lending schemes. It could increase the countercyclical buffer or introduce a higher leverage ratio requirement. We believe the FPC will test its powers gradually, tweaking the caps and bringing in new tools according to market developments.
The Prudential Regulatory Authority and the Financial Conduct Authority are implementing the recommendations. These policies will also be supported by the UK banking sector stress-test exercise, to be completed by end-2014, which will assess the resilience of banks to a 35% house price decline and substantial increases in interest rates.