The salutary lesson Stephen Smith learnt from the last market downturn was that those who grow fastest often have furthest to fall. And there are many firms from every sector of the industry that have gone all-out for growth in recent years only to find themselves severely stretched.
However, Smith thinks the economic fundamentals are completely different this time around. He said: “In the early 1990s, we had mass structural unemployment, which climbed to about 3.5 million, and rocketing interest rates of 15%, 16% and even 17%, neither of which we have today. Affordability is far better now. As a percentage of earnings it is half to two thirds the level it was in the early 1990s. The whole economy is much stronger.”
While the mortgage market was dealing with wider economic problems than funding in the early 1990s, parallels exist between now and then in terms of risks taken in underwriting and in the speed of some firms’ growth. Smith said: “I am not castigating the whole industry, but the casualties of the past 12 months have been those lenders who loosened criteria the most and grew the fastest.
“It was a little like the situation when an army marches into enemy territory. The faster and deeper it goes in, the more its supply lines are stretched. In mortgage terms, the supply line is the funding and lenders found themselves out on a limb when this funding started to dry up. What we should look at and learn from is that fast growth should be seen as a warning sign.”
Like others who have experienced at least two downturns, Smith is aware that advisers who survive are doing so because they have diversified their businesses, finding it is not workable to have a monoline business in the current market. He said: “Firms cannot be totally reliant on new business any more, so advisers are selling around the mortgage. At Legal & General (L&G), we have seen a marked increase in sales of protection and life insurance.”
Returning to the economy, Smith says another difference between now and the last downturn was that people were losing their jobs and could simply not afford their mortgage interest repayments. They were forced to sell their homes in a declining market, which only exacerbated the problem.
Now, many people who were looking at moving are staying put. They are simply withdrawing from the market, which is contributing to the lack of activity and falling prices, but with interest rates relatively low, they are not being forced to sell.
Smith believes that today’s buy-to-let sector will also make a difference. He said: “Most of today’s landlords invest for the long term. Research from the Building Societies Association in 2007 found that many see the downturn as a good opportunity to invest in the market and to actually expand their portfolios. If a chunk of the market does not have to sell, or does not want to, then the number of arrears and forced sales cannot be as noticeable. Therefore, the decline should not be as dramatic as last time.”
One thing that lenders have learnt from the last downturn is better arrears management. In the early 1990s, many lenders faced a tide of rising arrears for the first time and did not have the systems in place to deal with it.
Smith points out that all lenders now have systems that are better able to help people contain the problem. He said: “Repossessions figures are continuing to rise, but if you look back to the number of borrowers who were in arrears of three months or more in 1991 compared with now, we are currently at about a quarter of the level then.This puts the current scale into some sort of perspective. It is nowhere near as bad now as it was then.”
While brokers often – and with some justification – bemoan statutory regulation, it might be something which many will come to appreciate, according to Smith. He highlights the fact that the Government and the FSA are now looking at how banks are dealing with regulation.
But so far, brokers have not been blamed for the downturn, and if anything could find that they are seen as a body that was instrumental in preventing the problem from becoming much worse than it is. He said: “In the four years since statutory regulation was introduced, mortgage brokers have been asking borrowers about affordability and whether they have a need for insurance products, which should have gone some way to mitigating the damage. That had not happened prior to the last downturn.”
And if there are complaints, regulation has meant that all parties are protected as professional indemnity cover for advisers first came in with the non-statutory Mortgage Code Compliance Board which came into effect for brokers in 1998, and this has now been tightened further by the FSA.
Smith also points out that brokers are lucky they now have their own trade body, something the undeveloped sector did not have last time. He said: “With the Association of Mortgage Intermediaries, we now have a trade body that offers support and training to brokers; a body that lobbies Government and the regulator to ensure that brokers get a fair deal out of any changes and new laws.” n
Stephen Smith is director of housing for Legal & General
