So why is there a shortage of mortgages?

Way back in time, those who thought they might want to buy their home would open an account at a building society, and start saving. After several years of saving, the account holder would apply to the same building society for a mortgage. The building society would judge the application using similar criteria as today, but with less reliance on information from others, and more reliance on the “in branch” interview. One of the biggest considerations would be how much the applicant had managed to save, and how they had conducted their savings account. If everything was considered to be acceptable, a mortgage might then have been offered.

The reason I say might have been offered, is simply due to the fact that the building society would be lending money it had taken in as deposits from savers. If insufficient deposits had been received, then regardless of how good an application was, no money could be lent out.

By the mid 1980’s, the industry saw the arrival of centralised lenders, many of whom were branches of overseas corporations. Adverts started appearing on TV for the likes of the Household Mortgage Corporation, and names such as Bear Stearns and GMAC (General Motors) were starting to be heard. These new centralised lenders were different, in that the money they lent was not money that had been received in as deposits, but money that had been borrowed from other banks and financial institutions. This period in time also saw the emergence of mortgage brokers, who provided cheap and efficient distribution for these new lenders, most of whom did not want to invest in large branch networks.

As time went by, many traditional lenders also saw the advantage of lending money that had been borrowed from other lenders, and so the practice spread. In some cases, the lender themselves would not want to actually administer the mortgages themselves, and so, every now and then, they would package up the mortgages they had granted, and would sell these onto another lender in a process called securitisation. The whole process worked very well and benefited many, as long as the quality of the mortgages which were sold on was accurately known and graded.

In the UK, we operate in a regulated market, and as such we should be able to be reasonably confident that all those who have been granted mortgages are able afford them and have the ability to keep up with the payments. Of course there will always be those who slip through the net, but for most lenders, accounts in serious arrears are often less than 1%. However, in the United States, the distribution of mortgages is far less regulated, and it has been possible for vast numbers of mortgages to be granted to those who wouldn’t qualify if they were in the UK.

Typically, the applicant would have been talked into taking a mortgage deal with a very attractive initial discount, ignoring the fact that as soon as the discount had ended, the applicant would not be able to afford the repayments. However, even this would not necessarily be a disaster if the mortgage holder was able to sell the property and repay the mortgage, and prices were rising very fast in parts of the US.

The problems started when it became clear that there were vast numbers of people who had mortgages they couldn’t afford, and the market started to become flooded with property being sold on a forced sale basis, meaning that the ever increasing property price rises suddenly reversed. As most of these mortgages had been securitised, it meant that the “structured investment vehicles” they had become was no longer worth what everyone thought they were.

Of course, financial institutions and markets being as they are, every Tom Dick and Harry had wanted a piece of the pie and there were many institutions who had invested in structured investment vehicles now faced some serious losses on their investment. The problem is that most institutions have had difficulty calculating their own losses, let alone being able to assess the losses suffered by their competitors, and have therefore been very reluctant indeed to lend money to each other; this is why the credit crunch as more properly referred to as the liquidity crisis.

For those lenders who had built their business on the back of being able to borrow the money to lend, this was a serious turn of events, most notably demonstrated by the difficulties suffered by Northern Rock. What has been less well publicised is the number of centralised lenders who have either gone into liquidation, or simply just shut up shop for the time being.

Whilst the clock has not quite gone back to the mid 1980’s, it is certainly true that those lenders with money to lend, are those who have also receive deposits, and that is why there are quite so many television adverts at the moment for savings. It has been said that many of the lenders who are able to grant loans are simply profiteering, and it is a hard charge to refute, when the likes of the Nationwide announce increased profits on the back of 40% less lending!

Will it get better? The general thinking in the industry is that there will be return of activity and an eventual loosening of some criteria, but this might take some time. There is almost unanimous agreement that there will never be a return to the days of being able to borrow 90% of a property’s value with bad credit and no proof of income, but that isn’t necessarily a bad thing. We will know that the market is starting to recover when we see the first lender introduce a 100% product that does not need a guarantor.