Higher regulation of BTL is credit positive for UK banking

Recent measures to cool the buy-to-let (BTL) mortgage market will support the creditworthiness of the UK banking system by helping to ensure robust lending standards, according to Moody’s Investors Service.

“Once implemented, the UK government’s tax and stamp duty initiatives should help to temper the growth of the BTL sector,” said Riccardo Rinaldini, an analyst at Moody’s. “This should reduce the tail risk of a sharp decline in house prices from a concentrated market sell-off when interest rates eventually rise.”

While the current favourable economic environment — including low unemployment and low interest rates — has helped keep BTL mortgage arrears low, the BTL sector could negatively affect UK banks if things change.

“We consider BTL mortgages to be inherently riskier than owner-occupied mortgages,” explained Rinaldini. “If borrowing costs rise and rental income no longer covers landlords’ interest payments, a broad based sell-off of BTL properties could fuel a fall in house prices, negatively affecting all banks and building societies in the UK.”

The rating agency says the initiatives help ensure robust lending standards, which supports the creditworthiness of banks and building societies, even if they reduce a source of revenue for some banks by slowing the growth in BTL origination.

“The Treasury’s Autumn statement announcements have cost implications that will hamper growth in the BTL market. These cost implications could deter new borrowers from entering the market, thereby dampening the demand for BTL loans in the medium term,” said Greg Davies a Moody’s Assistant Vice President in Structured Finance.

“However, securitised transactions backed by BTL mortgages will benefit from the UK’s stable housing market and strong underwriting criteria. Therefore, the decrease in BTL loan origination will not have a negative impact on the performance of transactions backed by BTL mortgage loans,” added Davies The volume of outstanding BTL mortgages in the UK has more than doubled since 2007 to GBP 176 bln at year-end 2015 (15% of residential mortgage loans) from GBP 85 bln in 2007 (9%).

Greater harmonisation of the treatment of the BTL mortgage market segment with that of the owner-occupied sector will also be credit positive for the UK’s banking sector, in Moody’s view. The rating agency notes that — from a conduct point of view — 98% of outstanding BTL mortgages were not under the Financial Conduct Authority’s scope in September 2015. Of the 2% that were in scope, most included loans secured on the property of a borrower’s close relative.

Recent actions from the Treasury and the PRA include the Treasury Tax Relief Cuts, the Treasury’s Consultation to grant the Financial Policy Committee (FPC) powers of direction on the BTL sector; the PRA review of BTL underwriting standards; and implementation of the EU Mortgage Directive.

That house prices are extremely high in London is by now no secret. But recent figures from the National Housing Foundation show that the gulf between average earnings and average house prices in the British capital is perhaps even larger than some would have suspected.

Assuming the average Londoner would like to buy a house in the borough they currently reside in, the percentage increase in earnings required to get an 80% mortgage range from 105% in Bexley to a completely unattainable 653% in Kensington and Chelsea. Even for those who are realistic enough to have given up on the dream of owning a piece of prime real estate in Kensington, the average earning London resident (GBP 32,838) would need a pay increase of 266% to get a