UK Mortgage Crisis in the Making

With rising concern about a mortgage crisis, markets offered a poor reception to the BOE's latest double interest rate hike.

The Market Reaction

The day before the interest rate decision, core inflation came in well above expectations, prompting markets to react in anticipation of what the BOE would do. By the end of Thursday, the pound was weaker, and the FTSE 100 was down 0.8%. In reaction to the news, the worst-performing sectors were banks and homebuilders, as domestically facing sectors were among the worst hit.

About 2 million UK homeowners are expected to need to refinance their mortgages this year and the next and will see a sharp increase in monthly bills due to the BOE's action. Although the UK has managed to escape a recession, these higher mortgage costs are expected to dampen consumer spending, increasing the risk of a recession later in the year or next. The BOE's move pushed the reference rate to 5.0%, the highest since 2008, before the subprime crisis. Markets expect the central bank to keep raising until 6% before December, faced with persistently high inflation, with the core rate at the highest since 1991.

The Mortgage Grenade

Of the mortgages that are set to be renovated, around 0.8M will have to refinance by the end of the year, in conditions that the standard two-year fixed mortgage rate has doubled. The National Institute of Economic and Social Research estimates that a further 1.2M households will run out of savings this year, pushing the total share of households facing insolvency to 28%. BOE Governor Andrew Bailey denied the bank is trying to push the country into a recession but insisted that the current wage increases are "unsustainable".

Analysts say that the prospect that the UK will avoid a recession is very slim, as the BOE is potentially forced to keep raising rates in the future. The Institute of Fiscal Studies warned that the higher rates could translate into as many as 1.4M households seeing their disposable income drop by over 20%, as the interest rate on consumer credit is expected to rise. Housing prices are expected to fall as consumers feel the squeeze on disposable income, and the cost of borrowing increases. While that could primarily affect homebuilders, the impact on the FTSE 100 could be felt more through banks that might face higher delinquency rates, take more provisions, and offer fewer loans. Real estate accounts for just over 1% of the blue-chip index's weighting, but Financials are the second largest sector at almost 18%.

UK 100 in Symmetry, So Far

FTSE appears in a medium-term consolidation pattern, which may or may not form a triangle due to structural intricacies pointing to symmetry. Losing 7200 will invalidate the potential formation, but it might open the door to a broader triangle instead, with an invalidation bottom at 6700. If prices accelerate instead, bulls might face short-term resistance at 7690 and 7940, while a break past the latter might invalidate the pattern for a chance of a new record high above 8045.

Source: SpreadX / UK 100

Key Takeaways

The UK's double interest rate hike has raised concerns over a potential mortgage crisis, prompting a poor market reaction that saw banks and homebuilders fall victim to the worst-performing sectors. About 2 million UK homeowners are expected to refinance their mortgages this year and next, which could lead to a considerable increase in monthly bills. The high mortgage costs may dampen consumer spending, increasing the risk of a recession later in the year or next. The BOE is potentially forced to keep raising rates in the future, making it unlikely for the country to avoid a recession. As many as 1.4 million households may see their disposable income drop by over 20%, and housing prices are expected to fall, which could primarily impact homebuilders. However, banks may also face higher delinquency rates, take more provisions, and offer fewer loans, which could affect the FTSE 100.