MPC springs a surprise on quantitative easing

Ray Boulger of leading UK mortgage broker John Charcol comments on the news that the Monetary Policy Committee has left Bank Rate unchanged this month at 0.5% and surprised the markets by increasing the Quantitative Easing (QE) programme by £50bn. "An unchanged Bank Rate was a foregone conclusion this month and the main interest in the MPC meeting was always going to be what it would do about QE and over what time scale. Increasing the QE programme beyond the level previously agreed by The Treasury is a very clear indication that the MPC still has major concerns over the state of our economy and this will no doubt be reflected in next week's Quarterly Inflation Report. The comment in the MPC's statement that "In the United Kingdom, the recession appears to have been deeper than previously thought" is very relevant. As far as the mortgage market is concerned there is little evidence that the QE programme has resulted in any additional lending so far, but it is, of course, entirely possible that without QE mortgage lending would have been even more dire."

Boulger continues, "It is very noticeable that the banks which have boosted their lending most so far this year are the ones which didn't need a bailout. Barclays Woolwich and HSBC both increased their gross and net lending in the first half of this year compared to the same period last year and Abbey/Alliance & Leicester continued to lend at high levels. On the other hand Lloyds Banking Group not only lent less, but its market share in a smaller market also fell.

"Mortgage pricing has not changed much in the last three weeks but neither has criteria become any easier. Contrary to the impression that may have been given by some commentators who have been pointing out that there has been a small increase in the number of mortgages available at higher LTVs, the reality is that because many of these are from small building societies, often only lending in a very limited local area and without much appetite, the impact on the overall availability of funds is minimal. Just counting the number of mortgages available doesn't always give a good indication of whether or not conditions are easing.

"Some good news is that Libor rates have fallen steadily over the last month, with 3 month Libor now down to a record low of 0.87% and 6 month Libor only slightly higher at 1.09%, suggesting the market doesn't expect to see a Bank Rate increase for at least 6 months. The housing market is continuing to improve, with Nationwide's real, i.e. non seasonally adjusted index, now showing a rise of 3.8% in the first 7 months of this year. With confidence returning to the housing market, and despite the obvious problems such as more large increases in unemployment to come, lack of mortgage finance and in particular lenders' lack of appetite for higher LTV lending, I now expect house prices to show an increase of at least 5% this year.

Boulger continues, "Some of the other economic statistics have also improved over the last month, or perhaps one should say are looking a little less bad, but in some cases, such as new car sales, this was in response to specific short term Government action rather than as a result of any obvious underlying improvement in demand. Despite several bullish newspaper headlines this morning on the state of the economy it is much too early to be confident that a meaningful recovery is under way."

What should borrowers do now Ray?

"Gilts and swap rates are already discounting a significant increase in Bank Rate and this is naturally reflected in fixed rate mortgage pricing, which is sharply up compared to only a few months ago. On the other hand there has been little change in the cost of tracker mortgages over the last few months and as a result the initial gap between fixed and tracker rate pricing has widened considerably. With significant increases in Bank Rate now reflected in fixed rate pricing, the benefit of a fix in offering protection from rate rises is severely impaired, although of course a fixed rate still provides stability of payments, making budgeting easier, and so will continue to be attractive to many borrowers.

"However, there is now a strong argument for considering a tracker mortgage in preference to a fix, but ideally retaining the ability to switch to a fixed rate if and when deemed appropriate. This means either buying a tracker with no, or low, early repayment charges (ERC) or one which offers a droplock option, allowing a switch to a fix without incurring the ERC. Woolwich has just improved some of its trackers and now offers a very competitive offset lifetime tracker at Bank Rate + 2.47% up to 70% LTV, subject to a minimum loan size of £150,000 and an ERC of 1% for 3 years. HSBC offer a very competitive range of ERC free, but non flexible, lifetime trackers, with rates starting at Bank Rate + 2.24% for LTVs up to 60%. The best examples of a droplock mortgage are from Nationwide, which is the only major lender offering a droplock option on all its trackers.

"The initial reaction of the gilt market to the QE announcement was to drop yields across all maturities by about 0.17%. If these lower yields are maintained into next week I would expect to see some reductions in the cost of fixed rate mortgages later in the month."