“Mum & dad are lending money to their kids so their kids can afford to pay the prices demanded by mum & dad & their friends. It’s like a giant Ponzi scheme but where the victims are your children.”
By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.
As the economic growth in the UK stutters — for the first quarter, the UK posted the worst GDP figures in five years on weak business investment and household spending — the country’s all-important housing market is beginning to show signs of strain. In April house sales were down 9.4% on the previous year. In the UK’s most valuable market, London, house prices had their worst month since 2009, slipping 0.7%, according to the latest figures from the Office for National Statistics (ONS).
As credit demand slips, some banks have decided to bring back a financial relic that should never have seen the light of day in the first place: the 100% mortgage. Both Barclays Bank and the recently privatized Post Office have recently unveiled 100% mortgage deals.
A high-risk loan instrument that helped fuel madcap property booms in countries like Spain and the UK, the 100% mortgage allows property buyers to borrow the entire amount of the purchase price. During the heady days of the UK’s pre-2008 property boom, some banks even offered loans that were 20% more than the property value. They included Northern Rock, one of the first lenders to collapse in the Global Financial Crisis.
Mortgages for 100% (or above) of the purchase price not only help fuel high-octane housing bubbles, they also make them a lot riskier when home priced decline, and when more and more borrowers end up with negative equity – where someone’s home is worth less than their debt. That, in turn, significantly raises the likelihood of borrowers defaulting on their loans. And that’s why these 100% mortgages are risky for banks.
Today’s new breed of 100% mortgages has a twist in its tail: to provide the banks extra security, they are insisting on family members acting as guarantors for parts of the loans. In other words, if a borrower falls behind on repayments, a parent’s home can also be put at risk.
This kind of deal is becoming increasingly common in the UK, where property prices still remain close to their all-time high despite fears prompted by Brexit and the recent cooling of London’s property market. Underpaid and over-indebted, many young people cannot afford to put down even a 5% deposit on houses whose prices, after they’re adjusted for inflation, have almost doubled in the last 20 years. And a 10% or 15% down-payment is totally out of reach. Their only hope of getting onto the “property ladder” is to get a financial leg up from their parents.
So widespread is this phenomenon that in 2017 the so-called “Bank of Mum and Dad” became the ninth biggest mortgage lender in the UK shelling out some £6.5 billion in loans. Parents helped provide deposits for more than 298,000 mortgages last year — the equivalent of 26% of all transactions. “The Bank of Mum and Dad continues to grow in importance in helping young people take their early steps onto the housing ladder,” said Nigel Wilson, chief executive of the financial service company Legal & General.
It is not driven purely by altruism. The UK’s multi-decade property boom, propelled by artificially low interest rates and supportive government policies, has provided a huge source of wealth for baby boomers. If the Bank of Mum and Dad didn’t lend this money to the new generation, demand for new mortgages would dry up and the UK’s multi-decade housing bubble would have begun to deflate some time ago. As a result, the houses that mum and dad own would lose much of their “value” and their respective net worth would plummet.
“Mum & dad are lending money to their kids so their kids can afford to pay the prices demanded by mum & dad & their friends,” explained buyers agent Henry Pryor. “It’s like a giant Ponzi scheme but where the victims are your children.”
More than one in four transactions in the UK’s property market this year will depend on the Bank of Mum and Dad’s financial support, according to Legal & General. The “bank” is expected to help fund 317,000 homes this year, up 3% on 2017. It’s not just twenty and thirty somethings that rely on its “lending”: 20% of those aged between 45 and 55 are also receiving some form of assistance.
There are two major problems with this trend:
One, only those with affluent parents get access to the cheap (if not free) funds. This further exacerbates the already high levels of wealth inequality in the UK. To lend their children a helping hand, some less moneyed parents may decide to remortgage their homes or serve as guarantors on the sort of mortgage deals mentioned above, but at the risk of losing their own properties in the process.
And two, the Bank of Mum and Dad does not have infinite resources at its disposal. In fact, while parents may be playing an increasing role in mortgage transactions, the actual amount they’re ponying up appears to be falling. Overall lending is expected to drop to £5.7 billion this year from last year’s peak of £6.5 billion.
“People are feeling a bit of a pinch around the economy and therefore we’re seeing pretty much a national trend outside of London for less to be given,” Nigel Wilson told the BBC. If that pinch continues to grow, the Bank of Mum and Dad could lose a large part of its liquidity. And with it, the UK’s housing market, which has provided a vital source of artificial wealth creation over the last three and a half decades, could lose its final pillar of support. By Don Quijones.
Blackstone Group, Cerberus Capital Management, and others face a problem. Read… Wall Street Mega-Landlords Piled into Spain’s Rental Property Boom, and Now it Hits a Wall?
Enjoy reading WOLF STREET and want to support it? You can donate. I appreciate it immensely. Click on the beer and iced-tea mug to find out how:
Would you like to be notified via email when WOLF STREET publishes a new article? Sign up here.