UK Mortgage Market Research Articles

Value of Information, Search, and Competition in the UK Mortgage Market

Value of Information, Search, and Competition in the UK Mortgage Market

Refinancing Cross-Subsidies in the Mortgage Market

Evidence from a range of countries reveals that household inaction in mortgage refinancing can be pervasive despite financial incentives to take action. Inactive households may implicitly cross-subsidize active households, allowing competitive lenders to set lower average mortgage rates. To provide a money-metric assessment of cross-subsidies, we construct a model of household refinancing and structurally estimate it on rich administrative data on the stock of loans in the U.K. mortgage market in June 2015. We estimate sizeable cross-subsidies during this sample period, from relatively poorer households and those located in less-wealthy areas towards richer households and those located in wealthier areas. The findings over this sample period highlight how the design of household finance markets can contribute to wealth inequality. Estimated cross-subsidies may differ in more recent periods given changes in the UK mortgage market since 2015.

Determinants of mortgage arrears: the case of buy to let

This paper considers a vector error correction modelling (VECM) approach to identify determinants of mortgage portfolio arrears in the buy to let (BTL) segment of the UK mortgage market. Within this context, the alternative theories of the ability to pay view and the equity view are tested for the particular segment of the UK mortgage market. The empirical results suggest that UK BTL arrears are related to the dual-trigger approach where elements of the ability to pay view are combined with elements from the equity view to determine the aggregate arrears behaviour. From a behavioural perspective the results imply that borrowers' decisions may be influenced from personal biases and optimism around the long-run affordability and equity returns of their (BTL) investment decisions. Likewise, the 2008 crisis provided some indication that lenders may be affected from similar biases when making lending decisions. These findings may therefore be of practical use for mortgage portfolio managers and decision makers when considering policies for the BTL segment of the UK mortgage market.

Determinants of mortgage arrears: the case of buy to let

This paper considers a vector error correction modelling (VECM) approach to identify determinants of mortgage portfolio arrears in the buy to let (BTL) segment of the UK mortgage market. Within this context, the alternative theories of the ability to pay view and the equity view are tested for the particular segment of the UK mortgage market. The empirical results suggest that UK BTL arrears are related to the dual-trigger approach where elements of the ability to pay view are combined with elements from the equity view to determine the aggregate arrears behaviour. From a behavioural perspective the results imply that borrowers' decisions may be influenced from personal biases and optimism around the long-run affordability and equity returns of their (BTL) investment decisions. Likewise, the 2008 crisis provided some indication that lenders may be affected from similar biases when making lending decisions. These findings may therefore be of practical use for mortgage portfolio managers and decision makers when considering policies for the BTL segment of the UK mortgage market.

Effects of the Advice Requirement and Intermediation in the UK Mortgage Market

We exploit a change in conduct regulation – the Mortgage Market Review (MMR) in 2014 – to estimate the effects of mandatory advice on the choices of UK mortgage borrowers. Focussing on the most affected segment of borrowers, home purchasers, we find that the proportion of advised transactions increased from three quarters to nearly the entire market post MMR. To estimate the effect on various aspects of consumer choices, we first construct a unique dataset that combines the entire population of residential mortgage originations from mid-2012 to mid-2016 with credit reference agency data and detailed product data on mortgage contracts (including all fees – an important component of costs given frequent re-mortgaging in the UK market). Our observation window straddles the MMR implementation date and our main specifications include an implementation window to reflect the transition in the market. We use difference-in-difference matching on the repeated cross-section to estimate the counterfactual outcome for mortgage borrowers that did not use mortgage advice before the MMR, but were effectively forced to do so afterwards. We find that advice made these borrowers more likely to fix their rates for short periods, choose longer mortgage terms and use an intermediary. We find no effects of mandatory advice on various metrics of borrowing cost. Since we observe a notable increase in intermediation across the market following the MMR, we also use matching on the cross-section of post-MMR originations to estimate the average treatment effect of intermediation. We find that intermediated borrowers are more likely to fix their rates for short periods, choose longer mortgage terms and have a lower cost of borrowing than consumers who go direct to lender.

Six of Onee? Choice of Intermediary in the UK Mortgage Market

Using a novel transactional-level dataset we find that the average price of similar mortgage products for like-for-like consumers varies materially across UK mortgage intermediaries. We consider potential drivers of this price variation. We find that, on average, intermediaries using a greater number of lenders sell cheaper mortgages. Conversely, intermediaries using fewer lenders sell more expensive mortgages on average. We also investigate whether high commissions (called ‘procuration fees’) lenders pay to intermediaries are associated with intermediaries selling more expensive products. We find little evidence that intermediaries selling highly priced mortgages also receive high procuration fees.

Leverage Regulation and Market Structure: An Empirical Model of the UK Mortgage Market

I develop a structural model of mortgage demand and lender competition to study how leverage regulation a ffects the equilibrium in the UK mortgage market. Using variation in risk-weighted capital requirements jointly across lenders and mortgages with di fferential loan-to-values, I show that a one-percentage-point increase in risk-weighted capital requirements increases lenders' marginal cost of originating mortgages by about 26 basis points (11 percent) for the average mortgage product. I use the estimated model to study proposed leverage regulations. Counterfactual analyses show that large lenders exploit a regulatory cost advantage, which increases concentration of mortgage originations by about 20 percent, and suggest that banning high loan-to-value mortgages may reduce large lenders' equity bu er.

A Tiger by the Tail: Estimating the UK Mortgage Market Vulnerabilities from Loan-Level Data

Following the global financial crisis, macroprudential regulators in a number of countries took actions to mitigate risks arising from stressed mortgage markets to financial and economic stability. Having disaggregated information on the stock of mortgages allows policymakers to analyse particular cohorts of the market that may be more vulnerable to stress, and model how these cohorts may evolve in the future and might affect the outlook for financial and economic stability. To this end, we produce the first ever estimate of the current stock of all regulated UK mortgages at the level of individual loans using data from the flow of new mortgages. We use loan-level information of 14 million UK mortgages at the point each loan was originated or re-mortgaged. Using a series of algorithms from Computer Science, we identify individual loans in the flow of lending that are likely to be still in the stock at different points in time. Then we estimate how key characteristics of mortgages (including borrower incomes, house prices and outstanding loan amounts) are likely to have evolved over time since origination. We validate our overall model by comparing key variables to information available from other sources that provide partial characteristics of the stock, including household surveys and regulatory returns. Our stock estimate suggests that there may have been more vulnerable borrowers in recent years than household surveys suggest. Finally, we illustrate the type of cohort analysis that can be done using the loan-level estimate.

Supply driven mortgage choice

Variable mortgage contracts dominate the UK mortgage market. The dominance of the variable rate mortgage contracts has important consequences for the transmission mechanism of monetary policy decisions and systemic risks. This raises an obvious concern that a mortgage market such as that in the UK, where the major proportion of mortgage debt is either at a variable or fixed for less than two years rate, is vulnerable to alterations in the interest rate regime. Theoretically, mortgage choice is determined by demand and supply factors. So far, most of the existing literature has focused on the demand side perspective, and what is limited is consideration of supply side factors in empirical investigation on mortgage choice decisions. This paper uniquely explores whether supply side factors may partially explain observed/ex-post mortgage type decisions. Empirical results detect that lenders’ profit motives and mortgage funding/pricing issues may have assisted in preferences toward variable rate contracts. Securitisation is found to positively impact upon gross mortgage lending volumes while negatively impacting upon the share of variable lending flows. This shows that an increase in securitisation not only improves liquidity in the supply of mortgage funds, but also has the potential to shift mortgage choices toward fixed mortgage debt. The policy implications may involve a number of measures, including reconsideration of the capital requirements for the fixed, as opposed to the variable rate mortgage debt, growing securitisation and optimisation of the mortgage pricing policies.

Perceptions of Regulation on the UK Mortgage Market: A Step Too Far?

Poor risk management within firms was the result of deregulation and the Big Bang of 1986. Without a regulator and in order to achieve financial growth, firms inadequately managed their risk. The 2007 financial crisis was a wake up call to the UK highlighting that companies could not carry on in this manner. The financial crisis resulted in the FSA assuming the role of an active regulator, thus many requirements were implemented including the Capital Adequacy Ratio. Consequently, gross mortgage lending decreased by 63% during 2007-2010. Therefore, this study investigates the perceptions of the current level of regulation on the UK mortgage market. The research found there is a strong perception that the level of regulation is hindering lending and competition within the market. More specifically this study uses a qualitative approach of in-depth interviews with five financial and regulatory professionals. The results suggest that two professionals perceived regulation as positive for the UK mortgage market. Regulation is perceived positively because of its ability to give consumers greater market confidence, the implementation of loss mitigation strategies that prevent house repossession and the loss of irresponsible lenders. Three professionals perceived regulation as highly negative because it has reduced the lending rate, created barriers to entry thus reducing competition, has moved careless lending to other areas of the market such as payday loans, has created a substantial cost burden, has used a one-size-fits-all approach and has not removed fraudulent activity completely. Overall these results suggest that UK economy may struggle to get out of this recessionary period as long as there are uniform capital requirements imposed on UK lenders. It is recommended that the regulator may take an approach that lessens the requirements enforced on non-bank lenders. However, the capital requirements should be imposed on banks that have wider implications for the UK economy and caused the current financial crisis in order to prevent future financial crises. Another recommendation is the segmentation of building societies from banks as seen in the 1970s. The separation would create market confidence and would result in greater local knowledge; this would stimulate growth within the UK mortgage market.

Measuring the Value of Product Characteristics in the Presence of Price Dispersion

Modeling the price of multi‐attribute products generally requires an assessment of each attributes' market value. In the presence of price dispersion, when similar products are sold at different prices, hedonic pricing models provide users with biased estimates of attribute value. This paper develops the hedonic pricing literature by proposing data envelopment analysis as a prior means of identifying a sub‐sample of products which, after adjusting for attribute provision, display no price dispersion. These products then display a homogenous link between attributes and price, which can be modeled using hedonic pricing. This paper implements and evaluates this two‐stage approach using 1000 observations from the UK mortgage market. Copyright © 2014 John Wiley & Sons, Ltd.

Uncertainty and switching in the mortgage market

We examine when it might be optimal for borrowers to switch providers of debt products such as their mortgage, allowing in particular for the role of uncertainty by constructing a stylized real options model of the decision problem involved. We illustrate with numerical examples, and then calibrate the model for the UK mortgage market for the period October 1998 to March 2005; significant magnitudes of trigger levels can arise even when standard switching costs are zero, providing an additional, risk-related explanation to the inertia commonly observed in borrowers' product choices.

The UK mortgage market: responding to volatility

The UK housing finance system is still recovering from the credit and financial crisis of 2007–2008. Some features of the system have made it particularly vulnerable to this crisis, notably the extent to which lenders have been reliant on the money markets and securitisation to enable them to lend and the generosity of loan conditions during the boom period, especially after 2005. Other features have helped the system to weather the crisis—notably the relatively low rate of transactions and the prevalence of variable rate and tracker mortgages, which meant that many existing borrowers saw their interest payments fall. At the same time the prime objective of the mortgage market—supporting sustainable owner-occupation—has been undermined as first-time buyers have found it more and more difficult to obtain mortgage funding. The objective of this paper is to assess the robustness of the UK housing finance system not only in the context of the current crisis but also in comparison with earlier crises. We discuss the fundamental issues of volatility and longer-term house price developments both before and after liberalisation. To address these issues the paper first looks at the history of housing market volatility, then at the details of the period since 2007 and finally at future prospects.

DO HOUSE PRICES DRIVE CONSUMPTION GROWTH? THE COINCIDENT CYCLES OF HOUSE PRICES AND CONSUMPTION IN THE UK

This paper uses a realistic structural lifecycle model of consumption and housing decisions to understand how data might distinguish different mechanisms that explain the correlation between house prices and consumption. The model includes price and earnings shocks estimated from data (the latter including aggregate and idiosyncratic components), and incorporates realistic features of the UK mortgage market. We simulate the model using more than 30 years of realized shocks and under counterfactual scenarios. Our results confirm the intuition of earlier studies: house price shocks should have a larger effect on the consumption of older households and earnings shocks on young households.

Uncertainty and Switching in the Mortgage Market

We examine when it might be optimal for borrowers to switch providers of debt products such as their mortgage, allowing in particular for the role of uncertainty by constructing a stylized real options model of the decision problem involved. We illustrate with numerical examples, and then calibrate the model for the UK mortgage market for the period October 1998 to March 2005; significant magnitudes of trigger levels can arise even when standard switching costs are zero, providing an additional, risk-related explanation to the inertia commonly observed in borrowers' product choices.

Product differentiation and consumption efficiency in mortgage markets

This study evaluates the outcome of non-price competition in the UK mortgage market. Developing a novel application of data envelopment analysis, DEA, within the banking literature, this study finds evidence of high consumption efficiency. Employing cluster analysis, the study provides additional evidence that efficient mortgages are available for borrowers across a broad range of market segments. The study also shows that these beneficial aspects of non-price competition are only available to borrowers who select mortgages based on rational measures of price. The discussion closes with guidance for policymakers.

Securitization and Rate Setting in the UK Mortgage Market*

ABSTRACTThe objective of this paper is to investigate the way mortgage rates are set by lenders funded by deposits versus lenders funded in the capital markets by securitization. The paper tests the response of both types of lenders to changes in market rates using an Error Correction Model. The results obtained here show that the rates of lenders opting for securitization adjust slightly faster to changes in market rates, lowering borrower costs at times of falling interest rates; the difference in mark‐up over the market rate is also lower on average for these lenders although it is not statistically significant. On the contrary, depository institutions seem to engage in more interest rate smoothing, confirming one of the distinctive characteristics of traditional bank lending, the provision of risk‐sharing opportunities to borrowers.

Growth in the specialist mortgage market

PurposeReviews the latest management developments across the globe and pinpoints practical implications from cutting‐edge research and case studies.Design/methodology/approachThis briefing is prepared by an independent writer who adds their own impartial comments and places the articles in context.FindingsThe UK mortgage market has undergone huge changes in recent years, as the social demographic has evolved and divided. New market sectors are coming of age with consumers within those sectors having their own unique needs, requirements and limitations. When these new customer types emerge new niche markets are created. Those lenders and finance providers able to grasp and embrace such changes, are the lenders who are most likely to succeed.Practical implicationsProvides strategic insights and practical thinking that have influenced some of the world's leading organizations.Originality/valueAs consumers' lending requirements become ever broader in the future, it is the lenders that remain flexible, knowledgeable and above all committed to their market, that are most likely to be successful in gaining the trust and business of consumers.

Testing a theoretical model of mortgage demand on UK data

Mortgage demand is a poorly understood and under-researched aspect of the financial behaviour of households. This paper tests empirically the basic results of Brueckner's model of mortgage demand on UK mortgage market data. The choice of mortgage instrument is used to identify impatient debt maximizers and patient borrowers who borrow at intermediate levels. Thus the research confirms the conditions under which households will use the largest possible mortgage and the circumstances under which savings are invested in the property. A unique contribution of the work is the estimation of mortgage demand equations corrected for endogenous housing demand, for a single housing finance system, where borrowers face different opportunity costs of equity in their owner occupied property, allowing a purer test of the theoretical model.

Incentives Information and Efficiency in the UK Mortgage Market

This paper analyses the choices made by households in the UK about mortgages. It considers whether there might be forms of market failure that prevent the structure of mortgage debt better reflecting the underlying preferences of households. UK households lie at one end of a spectrum of the degree of uncertainty over the nominal payments due on mortgage debt. There are several different hypotheses for the type of mortgages households choose. Some are consistent with an efficient market, others not. The paper looks at alternative explanations for the behaviour of UK households and assesses which are consistent with the evidence.