The pricing of mortgage products is closely linked to the state of interest rates. Up until the last rate move, general market expectations were that there would be one further base rate cut. However, this failed to materialise. The current belief is that rates will stay where they are in the short term and if there is a movement, it will be upwards. If interest rates do rise the advice for ‘standard’ borrowers is to opt for fixed rates. While discount rates are strongest in a falling interest rate environment, fixes offer the borrower payment security if and when rates rise.
However, it is more than just interest rates that affect pricing in the mortgage market. The cost of money and competitive pressures also play their part. After the recent election most industry analysts have re-assessed their forecasts for the movement of money for a number of reasons. Abroad, sterling was discounted against the euro because many believed that with Labour still in power the pound’s entry into the euro was more likely. As a result, the pound began to fall and this, in turn, had an effect on fixed and capped rates and the longer-term prediction for money markets.
Up to this point, the long-term money markets had shown a relatively flat yield curve of under 6% for fixed rates for two years and beyond. This had resulted in a large amount of sub 6% two-year fixes on the market. After the election the yield curve, with the fall in the value of sterling against the euro, altered slightly and the rate is now above 6% (around 6.15%) for two years plus.
What this means for the foreseeable future is that the sub-6% caps and fixes that were present up until a few weeks ago will no longer be available.
Although fixes and caps are still a good choice they do not reflect the cheaper pricing that was evident in the earlier part of this year. The mortgage market has always been competitive and this is the reason why many of the standard products available now fail to provide profit for the lender until after the third, fourth or even fifth year of the loan.
Lenders have always recognised the downside of this competitiveness and Nationwide has been one of the first lenders to try and combat this by offering a longer-term value product to its customers.
This product offers borrowers a ‘cheap’ SVR through the life of the loan. However, it has become clear this is not an option borrowers are particularly favourable to. Therefore, the future for product pricing and development may lie in more innovative long-term strategies.
Yorkshire Building Society recently announced it would be implementing trail fees across its range. This means brokers will be drip fed their fee over the term of the loan and if a number of lenders take up this method it should restrict the amount of remortgaging in the market.
Remortgaging is beneficial to the consumer. With so many products offering no tie-ins, borrowers can continually remortgage throughout their years as a home owner to ensure that they always get the best deal. The idea of trail fees may lead some to suggest that the lender is trying to manipulate the market in the lenders’ best interests and the lenders will need to implement a strategy to counteract this concern.
Although remortgaging is popular with borrowers, it does cost money, with the various associated fees that need to be paid. So, it would be in the best interests of consumers to have a mortgage which is a better deal in the long term.
Looking at the idea of the Nationwide, we may see in time that lenders begin to offer borrowers ‘loyalty bonuses’. Where borrowers are rewarded by rate discounts for long- term loyalty to the lender. This would result in a more balanced market, as lenders retain more of their customers.
Products can also be priced with the long term in mind rather than loss leaders. Combining this with trail fees will reduce the amount of churning in the market and ensure a good deal for borrowers, brokers and lenders alike.
In the standard market, price determines what product is selected. Things are often very different in the niche and sub-prime markets. Although price is important, borrowers primarily buy on options and features rather than just price. The market is still subject to competitive pressures and rates will reflect this.
What will be important to the pricing of niche lending is the influx of mainstream lenders which are, in turn, increasing the competitive pressures. As margins in the standard market decrease such lenders are looking to the feature-rich areas of the market in order to expand into products that currently have healthy margins. Examples of lenders entering niche lending include Bristol & West and Northern Rock. As this is a relatively new area of the mortgage market for them, they entered into the softer end of the market, (not so heavy sub-prime) and often by acquisition.
Such moves into the niche lending arena mean that pricing is becoming more aggressive.
If mortgages move towards longer-term pricing it will encourage brokers to look towards the longer-term financial planning of clients, rather than just the short-term benefits that remortgaging can provide. If trail fees are implemented across the board, brokers will also have a more manageable and regular income from the advice they have given.
Pricing is always difficult to predict in the mortgage market as unexpected interest rate movements this year have shown. While it is not easy to predict rates it is possible to foresee what changes to the structure of products may occur.
It is unlikely that the current pricing will be sustained in the standard mortgage market because it does not have healthy margins. It is more likely that the make up of products will change and they will focus on capturing customer loyalty, for the long term.
Industry players give their views on the pricing of mortgage products
John Gully, group communications manager at Portman Building Society
‘We have now chosen to come out of the remortgaging market against a background of an increasing number of customers deciding to remortgage as soon as they can get a better rate. We decided to stand back from this ~churning’ and take a breath before maybe going back later in the year. If and when we do go back our pricing will probably be higher, but other lenders appear to be doing similar things. We cannot blame borrowers for doing this, but it is pushing up the costs for all lenders which is why mortgage pricing maybe pushed upwards this year.’
Ron Kennor, group general manager at Robinson & Jackson
‘We will soon be joining the euro, which will have a downward force on interest rates and open up the whole European market to UK homebuyers. If I were a UK lender, I would be very worried that the cosy and risk-free UK mortgage market would soon become even more competitive and I would do all I could to retain my clients rather than buying new business as many do while ignoring their existing books. Call centres are replacing branches, computers are replacing staff and customers are losing brand loyalty in return for the lowest rate. With liquid wealth being created by a strong economy, long-term rates, in my opinion, still look downwards. But what happens if inflation turns to deflation?’
Michael Giblin, IFA at Falcon Group
‘I do not think pricing can get more competitive than it is at the moment. A lot of lenders have lost money through discount deals in order to protect their books and I cannot see the war hotting up any further. But those that have fallen out of broker favour by scrapping discount products have shot themselves in the foot and will now have to go with what the market wants.’
Jennifer Stoddart, senior press officer at Nationwide
‘Although statistics show more people are moving away from SVRs and and going for short-term discounts, we do anticipate that other lenders will have to follow our lead. They will have to make the decision whether to reduce profits due to the losses incurred by more customers remortgaging, or change their pricing so that it levels out between new and existing borrowers.’