The Wall Street Journal-20080122-Now- U-K- Banks Are Facing Housing Storm on Home Turf
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Now, U.K. Banks Are Facing Housing Storm on Home Turf
Banks in the United Kingdom, after spending the past six months coping with the repercussions of the U.S. housing bust, are facing a new challenge: navigating a looming housing crunch at home.
After tripling in the past decade, house prices in the U.K. are slipping, adding to rising consumer gloom and sparking fears the U.K. could be on the precipice of a crisis that would rival that of the U.S. With payments on some 1.4 million mortgages resetting to higher levels this year -- up 52% from 2007 -- banks and mortgage lenders are likely to face rising defaults as heavily indebted U.K. homeowners run into trouble.
Together with a slowing economy, a weakening commercial-property market and continued lack of access to funding, that prospect is leading some analysts to downgrade their forecasts for U.K. banks' earnings -- and that could weigh on their share prices.
The deteriorating outlook applies to banks large and small. Royal Bank of Scotland Group PLC, Barclays PLC, Lloyds TSB Group PLC and HBOS PLC all have home-mortgage and commercial portfolios that may require them to increase their reserves against losses. RBS's U.S. unit also has exposure to the U.S. slowdown. Smaller mortgage lenders, such as Alliance & Leicester PLC and Bradford & Bingley PLC, are even more vulnerable to a rise in defaults and could face difficult times in borrowing the money they need to do business. All will report 2007 results and present their outlooks for this year in the next two months.
Stuart Dawkins, a spokesman for Alliance & Leicester, said the asset quality of U.K. prime mortgages remains strong and that the lender's assets are better than the industry average. Representatives for other banks either weren't available or declined to comment, citing the period before earnings.
"It's been pretty plain sailing for the past few years," said James Invine, a U.K. banks analyst at Dresdner Kleinwort in London. "Now, things are a lot tougher." As mortgage lending slows and banks compete for deposits by offering higher interest rates, he said, "margins have been squeezed."
Defaults on U.K. mortgage loans have yet to show a significant rise. Many see reason to believe that mortgage problems in the U.K. won't be as bad as in the U.S., where defaults have jumped as payments reset and many homeowners find themselves owing more than the value of their homes.
For one, the U.K.'s house-price boom wasn't accompanied by a boom in new-home construction, which in the U.S. led to a glut of supply that still weighs on prices. Perhaps most important, lending to those with sketchy credit histories has been less prevalent in the U.K. than in the U.S. Research firm Sanford Bernstein estimates these subprime loans account for 6% of all U.K. mortgages outstanding, compared with 14% in the U.S.
Also, mortgage payments in the U.K. aren't necessarily resetting to the same shock level as in the U.S. In a comparison of two typical subprime mortgages, one from the U.S. and one from the U.K., Sanford Bernstein analyst Antony Broadbent found that, all else being equal, the interest rate on the U.K. loan would rise by 0.59 percentage point upon reset, while the interest rate on the U.S. loan would rise by 1.5 percentage points at the first reset and ultimately 4.24 points.
"I don't think you're going to see the same scale of problems in the U.K. housing market as you've seen in the U.S.," said Jonathan Pierce, U.K. banking analyst at Credit Suisse in London.
Even if the optimists are right, that doesn't mean U.K. banking stocks as a whole are cheap. Overall, their prices had fallen 30% since the start of the crisis in August and traded at 7.2 times forecast earnings a share before yesterday's market selloff. That is less than half the valuation of Standard Chartered PLC, a London-based emerging-markets bank that trades at about 14.6 times projected earnings.
Amid the pessimism, analysts see some banks stocks as better than others. Barclays, for example, has relatively little mortgage exposure but has seen its stock price beaten down more than others in recent months, Mr. Pierce said.
There remains a significant downside risk. HSBC economist Karen Ward, one of the biggest bears on the U.K. housing market, notes demand for houses, as in the U.S., was driven by expectations that prices would keep rising.
Even U.K. homeowners with good credit are facing a number of drains on their income aside from mortgage-payment resets. "It's more people with a sound credit history that are just overleveraged, and that's the problem," Ms. Ward said. "It doesn't take much of a squeeze on people's real disposable income before they can't afford their mortgage anymore."
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Alistair MacDonald contributed to this article.
