The origins of the Global Financial Crisis can be traced back to the sub-prime lending fiasco which originated in the American market. Usually, lenders wish to be assured that a borrower is able to repay the mortgage on their property and would not lend to a “sub-prime” borrower i.e. somebody with a poor credit history or poor employment situation. However, taking a leaf from Michael Milken’s junk bond realisation, that the majority of “non-investment” grade bonds made it to maturity, the sub-prime market was based on the idea that the majority of sub-prime borrowers would manage to meet their obligations and that risk could therefore be minimised by “securitising” such loans by “bundling” many mortgages together (of course, they had to pay higher interest rates to compensate lenders for the higher risks involved). The idea was that even if a minority of these debts were not honoured, the loss could be absorbed by the majority of debts which were maintained to the end of their lifetime. There was an obvious flaw with this idea which could best be expressed as you can’t guarantee to make a gourmet omelette from rotten eggs.
As an upshot of the Global Financial Crisis, it became much more difficult to obtain a mortgage with lenders demanding better credit histories, prospects and deposits from potential borrowers. This was partially because lenders were more risk-averse but also because they needed to build their balance sheets against a potential future shock. Borrowers were being asked for deposits of 25% (or more) to secure a loan. The situation was so bad that the UK government initiated a “help to buy” scheme allowing buyers to secure up to 20% of the purchase price of the home as a loan to be used for the deposit. The scheme is due to end next year. Today, according to Which?, typical deposits are still 17% of the purchase price. However, better news has just been announced by leading UK mortgage lenders, representing a return towards normality.
The Nationwide Building Society and Santander have both recently announced the return of 95% loan-to-value mortgages for some customers. Borrowers still need to find 5% of the value as a deposit – currently £13850 on an “average” home. The last time that Nationwide felt able to offer such a loan was 2008. The loan attracts an interest rate a shade under 4% - well above the Bank of England interest rate of 0.25%. However, the move does signal that part of the financial sector is more confident about the future and a return to “business as usual”.