Carney’s mortgage market changes are a bit of a damp squib

Osborne’s Help-to-Buy scheme is unchanged

Mark Carney’s attempt to cool the mortgage market is a bit of damp squib. In most ways, anyway.

I doubt it will make a huge difference to house prices, and last week’s share price falls for housebuilders look overdone.

However, the move does strengthen my belief that volatility could be the name of the game in a couple of years’ time. Achieving a smooth transition to a more normal economy will be a huge challenge for Carney and whoever is the chancellor at that point.

Mark Carney has refocused the Funding for Lending scheme

To recap, Mark Carney and the Bank of England announced last week they would refocus the Funding for Lending scheme (FLS) from the mortgage market to small business lending. The scheme was introduced in 2012 and provides cheap finance to banks so they can lend more to homebuyers and small businesses.

From next year, the banks won’t be able to obtain any further cheap funds for mortgage lending although they can continue to use their existing allocations for mortgage lending.

Reforms are a damp squib – house prices will continue to rise

So why do I think it’s all a bit of a damp squib?

Well, one reason is that at least some lenders will be able to carry on accessing cheap finance for mortgage loans for a little while yet – that’s the lenders who haven’t used up their allocations yet.

And more importantly, George Osborne’s Help-to-Buy scheme is unchanged. Remember this is the government’s flagship policy for economic recovery and it provides help for buyers who don’t have large deposits – typically first-time buyers.

You see, Osborne won’t want to do anything that could choke off the economic recovery before the next election, so he wouldn’t have sanctioned the changes to Funding for Lending if he thought there was any chance of house prices going into reverse.

Granted, mortgage interest rates may rise a little next year, but we’re not going to see dramatic increases and I’m confident that house prices will continue to rise. It’s possible that Carney’s move may have slowed next year’s rise a little, but only a little. You should still expect to see rising house prices next year. Carney hasn’t done enough to make a significant difference.

And if house prices continue to rise, last week’s share price falls for housebuilders look overdone. For example, after a 7% fall in the share price, Persimmon (LSE: PSN) trades on a price/earnings ratio of 15. That’s a pretty attractive rating for a construction company when we’re in the early stages of an economic recovery.


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Be prepared for a lot more volatility in the markets

So I don’t think the changes to the FLS are going to make a huge difference to the economy, stocks and shares, or the property market in 2014.

But that doesn’t mean we should ignore the changes completely. They do have some symbolic value. Carney is making the point that he is aware of what is going on in the housing market and he doesn’t want to see a boom running completely out of control.

I suspect he may want to tighten monetary policy further, but it won’t be easy. For about 30 years prior to 2008, central banks round the world relied on interest rates if they wanted to tighten or relax monetary policy.

But things are different in 2013. If Carney announced a 0.25% rise in the base rate tomorrow, we’d see a much larger rise in long-term interest rates. Markets would take the base rate rise as a sign that the era of easy money was over. In other words, a 0.25% base rate rise in 2004 would have led to a modest tightening in monetary conditions. But such a rise would make a much bigger impact in 2014.

Similarly if Carney decided to reverse quantitative easing (QE), we could also see some dramatic changes in long-term rates. Look at what happened in the summer when Ben Bernanke just hinted that he might taper QE in the US.

So all Carney can do is try and give signals by making relatively modest changes at the margins – just as he did last week with the FLS.

Of course, at some point, Carney will have to push the economy more strongly back towards normal conditions. When that happens, we could see a lot more volatility in markets, and I don’t just mean stock markets here. We may see frequent and rapid changes in long-term interest rates which could trigger a lot of volatility in the mortgage and annuity markets.

Assuming I’m right about this volatility, it probably won’t start until 2015 at the earliest. So I remain reasonably confident about the UK stock market in 2014 – valuations aren’t ridiculously high right now, Osborne will be keen to keep the economy moving, and Carney probably won’t see the need to tighten much more.

But, as I say, things could get much more choppy beyond 2014. I’m not saying you would definitely be wrong to stay invested at that point, but it could be a pretty stressful experience.

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