Mortgage holders struggling under rate hikes

From Australian Broker.

A significant percentage of mortgage holders are struggling to cover their monthly repayments while a large proportion has already been slugged with higher interest rates despite the official cash rate remaining steady at 1.5%.

These results come from new research commissioned by mortgage brokers iSelect through Galaxy Research which polled over 1,000 Australian households. The study found that 25% were experiencing difficulty covering their mortgage repayments. In the same vein, the research suggests that 33% have had their interest rates increased in the past year.

“A third of home owners have had their rate increase during the past 12 months and if the RBA was to increase the official cash rate, no doubt most lenders would quickly follow suit. This would mean more and more Aussie homes will have to find ways to cut back in order to afford their increased home loan repayments,” said Laura Crowden, spokesperson for iSelect Home Loans.

She expressed her concern that a quarter of households were already in financial difficulties given that the official rate has been forecast to rise in the coming year.

“Despite having access to low interest rates, record house prices have forced many families to significantly extend themselves with almost 40% of households making their payments without having a surplus left over,” she said.

“As such it is not surprising that many Aussie home owners are already struggling to make their monthly repayments even while interest rates are low.”

The research found if interest rates were to rise by 1%, more than 780,000 mortgage holders would struggle to make repayments. This includes 632,000 households which would have to cut back costs to cover repayments and 150,000 which would be forced into further debt.

“We know from speaking to our customers that many Aussies are really feeling the pinch of rising cost of living pressures on their stretched household budget, especially as energy bills continue to skyrocket across much of the country,” Crowden said.

The research also found that a large percentage of mortgage holders were paying too much despite the low cash rate. In fact, 54% were paying an interest rate of 4% or more while 13% were paying over 5%.

Top 10 Mortgage Stress Count Down – September 2017

Mortgage stress rose again in September according to Digital Finance Analytics analysis, crossing the 900,000 household rubicon for the first time. The latest RBA data shows household debt to income rose again in June, to 193.7, further confirmation of Australia’s debt problem.

Across the nation, more than 905,000 households are estimated to be now in mortgage stress (last month 860,000) and more than 18,000 of these in severe stress. This equates to 28.9% of households. A rising number of more affluent households are being impacted as the contagion of mortgage stress continues to spread beyond the traditional mortgage belts. We estimate that more than 49,000 households risk default in the next 12 months, up 3,000 from last month.

Watch the video to learn more, and count down the latest top 10 post codes. We had some new regions “promoted” into the list this time.

The main drivers of stress are rising mortgage rates and living costs whilst real incomes continue to fall and underemployment remains high.  Some households are now making larger mortgage repayments following out of cycle interest rate rises, and are simultaneously facing higher power prices, council rates and childcare costs. This remains a deadly combination and is touching households across the country, not just in the mortgage belts.

Our analysis uses the DFA core market model which combines information from our 52,000 household surveys, public data from the RBA, ABS and APRA; and private data from lenders and aggregators. The data is current to end September 2017. We analyse household cash flow based on real incomes, outgoings and mortgage repayments, rather than using an arbitrary 30% of income.

Households are defined as “stressed” when net income (or cashflow) does not cover ongoing costs. Households in mild stress have little leeway in their cash flows, whereas those in severe stress are unable to meet repayments from current income. In both cases, households manage this deficit by cutting back on spending, putting more on credit cards and seeking to refinance, restructure or sell their home.  Those in severe stress are more likely to be seeking hardship assistance and are often forced to sell. The debt-to-income (DTI) ratios in severely stressed households are on average eleven times their current annual incomes and this is high on any measure. The combined statistics suggest there are continuing concerns about underwriting standards.

We revised our expectation of potential interest rate rises, given the stronger data on the global economy. Probability of default extends our mortgage stress analysis by overlaying economic indicators such as employment, future wage growth and cpi changes.

Martin North, Principal of Digital Finance Analytics said that “continued pressure from low wage and rising costs means those with bigger mortgages are especially under the gun. These stressed households are less likely to spend at the shops, which will act as a further drag anchor on future growth. The number of households impacted are economically significant, especially as household debt continues to climb to new record levels”. The latest household debt to income ratio is now at a record 193.7.[1]

Gill North, joint Principal of Digital Finance Analytics and a Professorial Research Fellow in the law school at Deakin University, citing her recent research, suggests the Australian house party has been glorious – but the hangover may be severe and more should be done to mitigate future risks and harm to highly indebted households and the nation.[2]

She notes that at the beginning of 2016 the RBA and APRA stood largely aloof from concerns around levels of household debt and the major risk was complacency. While the RBA and APRA have been more vocal since and have taken steps to tighten lending standards, she calls for additional measures and highlights the continuing vulnerability of many households without financial buffers for adverse contingencies.[3]

Regional analysis shows that NSW has 238,703 households in stress (238,755 last month), VIC 243,752 (236,544 last month), QLD 168,051 (146,497 last month) and WA 124,754 (118,860 last month). The probability of default rose, with around 9,300 in WA, around 9,100 QLD, 12,800 in VIC and 13,100 in NSW.

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Note that the detailed results from our surveys and analysis are made available to our paying clients.

[1] RBA E2 Household Finances – Selected Ratios June 2017

[2] Gill North ‘The Australian House Party Has Been Glorious – But the Hangover May Be Severe: Reforms to Mitigate Some of the Risks’ in R Levy, M O’Brien, S Rice, P Ridge and M Thornton (eds), New Directions For Law In Australia (ANU Press, Canberra, 2017). An earlier version of this book chapter is available at https://ssrn.com/author=905894.

[3] See also, Gill North, ‘Regulation Governing the Provision of Credit Assistance & Financial Advice in Australia: A Consumer’s Perspective’ (2015) 43 Federal Law Review 369. An earlier draft of this article is available at https://ssrn.com/author=905894.

 

Mortgage stress up despite decline in rates

New research from Roy Morgan shows that mortgage stress has increased to 17.3% of borrowers in July, an increase of 0.3% points over the last 12 months, despite a decline in loan rates.

Home loan rates were based on the standard variable rate from the RBA which in the three months ended July 2017 averaged 5.25%, down from 5.40% for the same period in 2016.

These are the latest findings from Roy Morgan’s Single Source Survey (Australia) of over 50,000 consumers per annum, which includes interviews with over 10,000 owner occupied mortgage holders.

Increase in ‘At Risk’ and ‘Extremely at Risk’ mortgage holders

Over the last 12 months there has been an increase in mortgage stress for both those considered to be ‘At Risk’ (which is based on the amount originally borrowed) and those ‘Extremely at Risk’ (based on the amount currently outstanding). In the three months to July 2016, 17.0% of mortgage holders were ‘At Risk’, this has increased to 17.3% in July 2017. Over the same period the proportion that were ‘Extremely at Risk’ also increased from 12.4% to 12.8%.

Mortgage Stress – Owner Occupied Mortgage Holders



Mortgage stress is based on the ability of home borrowers to meet the repayment guidelines currently provided by the major banks. 1. “At Risk” is based on those paying more than a certain proportion of their household income (15% to 50% depending on income) into their loans based on the appropriate Standard Variable Rate reported by the RBA and the amount the respondent initially borrowed. 2. “Extremely at Risk” is based on those paying more than a certain proportion of their household income (30% to 45% depending on Income) into their home loans based on the Standard Variable Rate set by the RBA on the amount respondents currently owe on their home loan. Source: Roy Morgan Single Source (Australia) 3 months ended July 2016, n = 2,673, 3 months ended July 2017, n = 2,734. Base: Australians 14+ with owner occupied home loan

Household incomes of mortgage holder’s not keeping pace with borrowings

The main cause of the increase in mortgage stress was the fact that over the last year, the median household income of mortgage holders only increased by 2.0%, well behind the increase in the median amount borrowed (up 7.4%) and the median amount outstanding (up 13.1%).

Major Factors Impacting Increase in Mortgage Stress – Last 12 Months

1. Percentage change is based on 3 months to July 2017, compared to 3 months to July 2016. Source: Roy Morgan Single Source (Australia) 3 months ended July 2016, n = 2,673, 3 months ended July 2017, n = 2,734. Base: Australians 14+ with owner occupied home loan

The increase in mortgage stress was despite the fact that home loan rates (based on the RBA standard variable rate) over this period actually declined from 5.40% to 5.25%.

Mortgage Tightening – The Property Imperative Weekly 30 Sept 2017

Mortgage Lending is slowing and banks are tightening their underwriting standards still further, so what does this tell us about the trajectory of home prices, and the risks currently in the system?

Welcome to the Property Imperative weekly to 30th September 2017. Watch the video, or read the transcript.

We start our review of the week’s finance and property news with the latest lending data from the regulators.

According to the RBA, overall housing credit rose 0.5% in August, and 6.6% for the year. Personal credit fell again, down 0.2%, and 1.1% on a 12-month basis. Business credit also rose 0.5%, or 4.5% on annual basis. Owner occupied lending was up $17.5 billion (0.68%) and investment lending was up $0.8 billion (0.14%). Credit for housing (owner occupied and investor) still grew as a proportion of all lending. The RBA said the switching between owner-occupier and investment lending is now $58 billion from July 2015, of which $1.7 billion occurred last month. These changes are incorporated in their growth rates.

On the other hand, data on the banks from APRA tells a different story. Overall the value of their mortgage portfolio fell 0.11% to $1.57 trillion. Within that owner occupied lending rose 0.1% to $1.02 trillion while investment lending fell 0.54% to $550 billion. As a result, the proportion of loans for investment purposes fell to 34.9%.

This explains all the discounts and special offers we have been tracking in the past few weeks, as banks become more desperate to grow their books in a falling market. Portfolio movements across the banks were quite marked, with Westpac and NAB growing their investment lending, while CBA and ANZ cutting theirs, but this may include loans switched between category. Remember that if banks are able to switch loans to owner occupied categories, they create more capacity to lend for investment purposes.  Putting the two data-sets together, we also conclude that the non-bank sector is also taking up some of the slack.

Our mortgage stress data got a good run this week, with the AFR featuring our analysis of Affluent Stress. More than 30,000 households in the nation’s wealthiest suburbs are facing financial stress, with hundreds risking default over the next 12 months because of soaring debts and static incomes. This includes blue ribbon post codes like Brighton and Glen Iris in Victoria, Mosman and Vaucluse in NSW and Nedlands and Claremont in WA.

The RBA is worrying about household debt, from a financial stability perspective, according to Assistant Governor Michele Bullock.  She said households have really high debt – mainly mortgages, as a result of low interest rates and rising house prices, and especially interest only loans. “High levels of debt does leave households vulnerable to shocks.” She said. The debt to income ratio is rising (150%), but for some it is much higher. We will release our September Stress update this coming week.

Debt continues to remain an issue. For example, new data from the Australian Financial Security Authority shows that in 2016–17, the most common non-business related causes of debtors entering personal insolvencies was the excessive use of credit (8,870 debtors), followed by unemployment or loss of income (8,035 debtors) and then domestic discord or relationship breakdown (3,222 debtors). However, employment related issues figured first in WA and SA.

It is also worth saying the Bank of England has now signalled that the UK cash rate will rise, and this follows recent statements from the FED in the same vein. It is increasingly clear these moves to lift rates will raise international funding costs to banks and put more pressure on the RBA to follow suit.

Meantime, lenders continue to tighten their underwriting standards.

ANZ announced that it will be implementing new restrictions on some loans for residential apartments, units and flats in Brisbane and Perth. Now there will be a maximum 80 per cent loan-to-value ratio for owner-occupier and investment loans for all apartments in certain inner-city post codes. We think these changes reflect concerns about elevated risks, due to oversupply and price falls. ANZ’s policy changes apply to all apartments in affected postcodes, including off-the-plan and non-standard small residential properties valued at less than $3 million. Granny flats though are excluded.

More generally, ANZ also issued a Customer Interview Guide with specific which topics brokers should discuss with home and investment loan borrowers. “We expect brokers to use a customer interview guide (CIG) to record customer conversations as a minimum moving forward,” noted ANZ “while it is not required to submit the CIG with the application, it should be made available when requested as a part of the qualitative file reviews.”

CBA launched an interest-only simulator to help brokers show customers the differences between IO and P&I repayments and a new compulsory Customer Acknowledgement form to be submitted with all home loan applications that have interest-only payments to ensure that IO payments meet customer needs. CBA said that brokers must complete the simulator for all customers who are considering IO payments irrespective of whether the customer chooses to proceed with them. These requirements will be mandatory for all brokers and will become effective on Monday, 9 October.

Suncorp announced it is introducing new pricing methodology for interest only home lending. Variable interest rates on existing owner-occupier interest only rates will increase by 0.10% p.a and variable interest rates on all investor interest only rates will increase 0.38% p.a., effective 1 November, 2017.

But what about property demand and supply?

The ABS said Australia’s population grew by 1.6% during the year ended 31 March 2017. Natural increase and Net Overseas contributed 36.6% and 59.6% respectively. In fact, all states and territories recorded positive population growth in the year ended 31 March 2017, but Victoria recorded the highest growth rate at 2.4%. and The Northern Territory recorded the lowest growth rate at 0.1%. Significantly, Victoria, the state with the highest growth rate is currently seeing the strongest auction clearance rates, strong demand, and home price growth. This is not a surprise, given the high migration and this may put a floor on potential property price falls.

On the other hand, we also see an imbalance between those seeking to Trade up and those looking to Trade down, according to our research. Those trading up are driven by expectations of greater capital growth (42%), for more space (27%), life-style change (14%) and job change (11%). Those seeking to trade down are driven by the desire to release capital for retirement (37%), to move to a place which is more convenient (either location, or for easier maintenance) (31%), or a desire to switch to, or invest in an investment property (18%).  In the past we saw a relative balance between those seeking to trade up and those seeking to trade down, but this is now changing.

Intention to transact, highlights that relatively more down traders are expecting to transact in the next year, compared with up traders. Given that there around 1.2 million Down Traders and around 800,000 Up Traders, we think there will be more seeking to sell, than buyers able to buy. As a result, this will provide a further drag on future price growth, especially in the middle and upper segments of the markets, where first time buyers are less likely to transact. This simple demand/supply curve provides another reason why prices may soon pass their peaks. Up Traders have more reason to delay, while Down Traders are seeking to extract capital, and as a result they have more of a burning platform.

Finally, auction clearance rates were still quite firm, despite the fact that property price growth continues to ease and time on market indicators suggest a shift in the supply and demand drivers, especially in Sydney.

So, overall, banks are on one hand still wanting to grow their home loan portfolios (as it remains the main profit driver), but lending momentum is slowing, and underwriting standards are being tightened further, at a time when home price growth is slowing.

This leaves many households with loans now outside current lending criteria, households who are already feeling the pain of low income growth as costs rise. More households are falling into mortgage stress, and this will put further downward pressure on prices and demand.

So we think the risks in the mortgage market are extending further, and the problem is that recent moves to ease momentum have come too late to assist those with large loans relative to income. As a result, when rates rise, as they will, the pain will only increase further.

And that’s the Property Imperative weekly to 30th September 2017.

More than 30,000 of the nation’s ‘richest’ households in financial distress

From The Australian Financial Review.

More than 30,000 households in the nation’s wealthiest suburbs are facing financial stress, with hundreds risking default over the next 12 months because of soaring debts and static incomes, according to analysis of the nation’s household financial hotspots.

Hundreds of households in Sydney’s harbourside Vaucluse, where the median property price is $4.5 million, or Melbourne’s bayside Brighton, where a median priced house is $2.6 million, are being severely squeezed as costs continue to stretch incomes, the Digital Finance Analytics research finds.

“A lot of people making seriously good money have borrowed serious amounts of money. The one thing that sorts them out is when interest rates begin to rise,” said Christopher Koren, a buyers’ agent for Morrell and Koren, which specialises in top-end real estate.

“When it comes to top-end household cash flow – ‘Houston, we have a problem’,” said Martin North, principal of Digital Finance Analytics, who claims lenders are making incorrect assumptions about household incomes rising to meet increasing costs.

The analysis reveals that nearly 1000 households in Brighton, where a beachbox without electricity sells for more than ...The analysis reveals that nearly 1000 households in Brighton, where a beachbox without electricity sells for more than $320,000, are under distress, or could face default in the next 12 months. Joe Armao, Fairfax Media.

The Reserve Bank of Australia this week warned property buyers stretching to enter the property market when interest rates are at record lows could be “vulnerable” to economic shocks, such as rate rises or a change in personal circumstances.

The bank’s research shows that debt for the nation’s top 20 per cent of households is at least 190 per cent of income, an increase of more than 50 per cent in the 12 years to 2014, the latest Reserve Bank of Australia numbers.

Brendan Coates, Australian Perspective Fellow for the Grattan Institute, said top-end debt is likely to have risen even higher during the past three years.

By contrast, debt for the bottom 20 per cent has remained at 60 per cent of total income.

Mr North said: “The banks have been very free in their lending to affluent households.”

Higher end is more exposed

It is based on traditional lending models that indicate lower income earners and the mortgage belt property buyers are the most vulnerable if rates rise, or the economy slows.

“But they have missed the point that massive leverage at the top end, static incomes and the high proportion of affluent households with interest-only loans means the higher end are significantly more exposed,” he said.

“A lot also have multiple households. Because rents are based on incomes, are lot of these investments are under water, which means they are losing money,” he said.

According to SQM Research, which monitors rents and house prices, the national average rental income for apartments is about 1.4 per cent and 2 per cent for houses, compared to 2 per cent inflation and interest rates typically about 4.5 per cent for investor loans.

Some investors, particularly from Sydney, are selling up, releasing capital and buying cheaper investment properties, in places like Adelaide, according to market analysts.

A median property in Sydney’s metropolitan area, which sells for about $1 million, will buy two inner suburban properties in Adelaide.

Households are ‘stressed’ when income does not cover ongoing costs, rather than identifying a percentage of income committed to mortgage repayments, such as 30 per cent of after-tax income.

Those in “severe distress” are unable to meet repayments from current income, which means they have to cut back on spending, or rely on credit, refinancing, loan restructuring, or selling their house.

Mortgage holders under “severe distress” are more likely to seek hardship assistance and are often forced to sell.

The analysis reveals that nearly 1000 households in Brighton, where a beachbox without electricity sells for more than $320,000, are under distress, or could face default in the next 12 months.

More than 600 households in Vaucluse and Watsons Bay are under similar pressure.

RBA assistant governor Michele Bullock said regulators remain concerned about the high level of household debt, which is a result of low interest rates and rising house prices.

“High levels of debt do leave households vulnerable to shocks,” she said.

Mr Coates said rich households having the most debt provided some comfort for regulators comparing Australia’s potential vulnerability to an economic shock with the US, where those most exposed were poorer, sub-prime borrowers.

“The RBA is less worried because people who hold the debt are relatively well off,” Mr Coates said.

Anecdotal evidence suggests top-end earners are increasing their spending at the same pace as rising property prices.

“Many in Melbourne and Sydney think they are bullet proof,” said Mr Koren. “They’ve bought property in premium suburbs in the best performing markets in the world and they suddenly think they are always making money, despite earning the same amount of pay”.

Across the nation, more than 860,000 households are estimated to be in mortgage stress, with more than 20,000 in severe stress, or a rise of about 1 per cent to about 26 per cent to the end of August, the analysis finds.

About 46,000 are estimated to risk default, it finds.

The Business Does Rate Rises and Households

A segment from ABC’s The Business, in which I discuss with Paul Bloxham Chief Economist HSBC, the question of when the RBA may lift rates, and the potential impact on households.

In essence, will the RBA be able to wait until income growth recovers, thus protecting household balance sheets, or will they move sooner as global rates rise, and put households, some of whom are already under pressure, into more financial stress?

You can read about the results from our mortgage stress surveys here.

‘Mortgage buffers’ will protect households from rate rises: Treasurer

From The Adviser.

Treasurer Scott Morrison has said that interest rates are “obviously” going to rise in the future but that many home owners would be able to avoid mortgage stress thanks to “mortgage buffers”.

Speaking on Paul Murray Live on Sky News on Wednesday (6 September), Treasurer Scott Morrison was asked about “mortgage stress”.

Mr Murray said: “[W]e know mortgage stress is a very significant issue for an awful lot of Australians [and] rates have never been lower…. How big of a concern to you is it that the downside of growth is that (at some point) interest rates go up and there’s an awful lot of people who, as they say, have no margin to move within?”

In response, Mr Morrison stated that while rates “are obviously more likely to go [up] than down”, there would “obviously” be an interest rate “event” coming “at some point”.

However, he added that this scenario would not necessarily lead to mortgage stress.

Mr Morrison said: “[T]he sort of scenario you’re forecasting is one where the economy has improved; wages [are] improving, unemployment is going down, so there’s a lot of compensating factors to that. The other thing about the housing market, particularly housing debt, is [that] in the main, many Australians have been getting ahead of their mortgage, so there’s a reserve capacity to draw on their mortgages and this is demonstrated in numbers from the Reserve Bank and the banks themselves.

“Australians have taken the opportunity, in the main, to try and get ahead of their mortgages and that’s a good thing. So, they’ve built a bit of a buffer for that type of event taking place (and at some point, obviously, that’s going to happen), but Australians have been pretty prudent.”

The Treasurer continued: “But the things that they can’t control are things like interest rates … electricity prices, and that’s why we have to do everything within our power to put downward pressure on them.”

Mr Morrison’s comments follow on from the Reserve Bank of Australia’s decision to hold the cash rate at its record low level of 1.5 per cent for the 13 month in a row and amid growing scrutiny and regulation on interest-only lending.

Speaking at the Reserve Bank board dinner held on Tuesday (5 September), RBA governor Philip Lowe said: [T]he RBA has worked closely with APRA to ensure that lending practices remain sound. Rightly, APRA has had a strong focus on loan serviceability calculations.

“In some cases, loans were being made where the borrower had only the slimmest of spare income. APRA has also introduced restrictions on growth of investor loans and restrictions on interest-only lending. This has been the right thing to do.”

Mortgage brokers are also increasingly being asked to provide detailed reasoning as to why they are placing a mortgagor into an interest-only loan and ensure that consumers can afford their repayments.

Many of those in the industry have outlined that mortgagors on interest-only loans should have a buffer of between 2 per cent and 3 per cent to protect against rate rises.

For example, CBA CEO Ian Narev stated at the Aussie conference last month that “the nature of regulation is such that [in] the low interest rate environment there is a buffer to make sure that if interest rates go up, you can still service that loan”.

Noting that the buffer is about 2.5 per cent currently, Mr Narev added that brokers “obviously have to be careful never to stray into financial advice”, stating that the conversation brokers need to have with customers is: “If rates go up — and we know from the test that you are going to be able to afford it — but what are you going to need to stop in order to repay, assuming your wages aren’t going up? And is everyone comfortable with the levels of debt?”

He said: “If the people in this room [i.e., brokers] and the people in the banking system are doing the right thing by the customers, if they are thinking about the long term and having the conversations with the customers to make sure that [if] rates could go up, they will be comfortable, then the lender is going to do it.”

Likewise, Digital Finance Analytics principal Martin North has previously told The Adviser that both brokers and banks have obligations to ensure that there is “detailed analysis” of household expenditure to maintain a 2–3 per cent buffer.

Draining The Tank

The latest National Accounts data, with GDP reported at 0.7% in trend terms for the quarter and 2.1% for the year was supported by the household sector.  Household final consumption expenditure increased 0.7% and government final consumption expenditure increased 1.2%.

But given the low wages growth, this household spending was supported by a continued raid on savings, with the savings ratio falling to 4.8%, the lowest level since the GFC in 2008.

This is consistent with our research of household cash flow, where more than 26% of mortgaged households are now relying on savings, credit cards and the like to manage the monthly budget.

The point though is this cannot continue indefinitely, because household savings are not infinite, and they are also skewed in distribution terms towards those with more assets and net worth.  Stress resides among households with lower net worth and little or no savings.

The debt burden will come home to roost, sometime.

Mortgage Stress Still On The Up

Digital Finance Analytics has released mortgage stress and default modelling for Australian mortgage borrowers, to end August 2017.  Across the nation, more than 860,000 households are estimated to be now in mortgage stress (last month 820,000) with more than 20,000 of these in severe stress. This equates to 26.4% of households, up from 25.8% last month.

We also estimate that nearly 46,000 households risk default in the next 12 months, 7,000 down from last month, as we have revised down our expectations of future mortgage rate rises.

In this video we discuss the results and countdown the top ten suburbs across Australia.

The main drivers of stress are rising mortgage rates and living costs whilst real incomes continue to fall and underemployment is on the rise.  This is a deadly combination and is touching households across the country, not just in the mortgage belts. In August higher power prices, council rates and childcare costs hit home.

This analysis uses our core market model which combines information from our 52,000 household surveys, public data from the RBA, ABS and APRA; and private data from lenders and aggregators. The data is current to end August 2017.

We analyse household cash flow based on real incomes, outgoings and mortgage repayments. Households are “stressed” when income does not cover ongoing costs, rather than identifying a set proportion of income, (such as 30%) going on the mortgage.

Those households in mild stress have little leeway in their cash flows, whereas those in severe stress are unable to meet repayments from current income. In both cases, households manage this deficit by cutting back on spending, putting more on credit cards and seeking to refinance, restructure or sell their home.  Those in severe stress are more likely to be seeking hardship assistance and are often forced to sell.

Martin North, Principal of Digital Finance Analytics said “flat incomes and underemployment mean rising costs are not being managed by many, and household budgets are really under pressure. Those with larger mortgages are more impacted by rate rises if and when they occur”.

“The latest housing debt to income ratio is at a record 190.4[1] so households will remain under pressure. Stressed households are less likely to spend at the shops, which acts as a drag anchor on future growth. The number of households impacted are economically significant, especially as household debt continues to climb to new record levels.”

“We continue to see the spread of mortgage stress in areas away from the traditional mortgage belts. A rising number of more affluent households are also being impacted.”

Regional analysis shows that NSW has 238,755 households in stress (225,090 last month), VIC 236,544 (229,988 last month), QLD 146,497 (144,825 last month) and WA 118,860 (107,936 last month).

The probability of default fell a little, with around 9,000 in WA, around 8,500 in QLD, 11,500 in VIC and 12,400 in NSW. We are projecting mortgage interest rates will remain lower for longer now, and this has had a beneficial impact on our results. Probability of default extends our mortgage stress analysis by overlaying economic indicators such as employment, future wage growth and cpi changes.

Here are the top counts of households in stress by post code.

[1] *RBA E2 Household Finances – Selected Ratios March 2016

Low US Inflation Signals Interest Rates Will Remain Lower For Longer

The latest data from the US which shows low inflation and wage growth has pulled the implied forward interest rates down suggesting the Fed will hold rates lower for longer.  This is reflected in falling yields on the T10.

Nearly half of the “Trump Effect” repricing has been undone.

This is also flowing into lower rates in the international capital markets, which is translating to lower costs of funds for the Australian banks (one reason why Westpac has cut their fixed rates).

As a result, in our default model, we have reduced the likelihood of an interest rate rise for mortgage holders in Australia over the next few months. This will translate to a projected fall in defaults, despite rising mortgage stress. We will publish the August data on Monday.  Households are likely to be able to muddle through and the RBA will hope business investment, which was stronger this time, works through.

Meantime, here is interesting commentary from Moody’s on the US, who highlight that the latest drop by personal savings in the US brings attention to the financial stress now facing many households there.

The recent slowdown by the underlying rate of consumer price inflation significantly lowered the risk of a disruptive climb by interest rates. In response, the VIX index sank from the 16.0 points of August 10, 2017 to a recent 10.7 points, while a composite high-yield bond spread narrowed from August 11’s 410 bp to August 30’s 399 bp.

However, the narrowing by the high-yield bond spread has been limited by a climb by the average high yield EDF (expected default frequency) metric from the July 2017 average of 3.9% to the 4.4% average of the five-days-ended August 30. Moreover, the US high-yield credit rating revisions of the third-quarter todate show downgrades topping upgrades even after excluding rating changes that were not primarily driven by fundamentals.

As recently as early July 2017, the Blue Chip consensus had anticipated a 2.5% average for Q3-2017’s 10-year Treasury yield. Much to the contrary, the 10-year Treasury yield has averaged 2.26% thus far in the third quarter, including a recent 2.13%. Not even a widely anticipated September 2017 start to the Fed’s reduced reinvestment of maturing bonds has been capable of lifting Treasury bond yields demonstrably.

In addition to July’s 1.4% annual rate of core PCE price index inflation, benchmark bond yields have been reined in by the market’s much reduced expectation of another Fed rate hike for 2017. As of mid-day on August 31, the futures market implicitly assigned only a 36.4% likelihood to fed funds’ midpoint finishing 2017 at something greater than its current 1.125% according to the CME Group’s FedWatch tool.

By itself, core PCE price index inflation’s performance of the last 20 years suggests that the FOMC may have considerable difficulty as far as sustaining PCE price index inflation at 2% or higher. For the 20-years-ended June 2017, core PCE price index inflation averaged only 1.7% annually. The annual rate of core PCE price index inflation was at least 2% in only 58, or 24.2%, of the last 240 months (20 years).

For those months showing an annual rate of core PCE price index inflation of at least 2%, the average annual rate of core inflation was only 2.2%, wherein the fastest annual rate of core inflation was the 2.5% of August 2006.

Drop by personal savings curbs core inflation

The slower growth of wage and salary income has helped to contain price inflation. After decelerating from 2014’s 5.6% and 2015’s 5.5% to 2016’s 3.0%, the annual increase of private-sector wages and salaries approximated a still sluggish 3.1% during January-July 2017. In response to the pronounced slowdown by wages and salaries, personal savings have shrunk by -29% annually thus far in 2017 following yearlong 2016’s -18% plunge.

The drop by the ratio of personal savings to disposable personal income from its 6.1% average of the five years ended 2015 to the 3.8% of 2017 to date implies Americans lack the financial wherewithal to either support or absorb significantly higher prices for long.

High rates of personal savings make it easier for consumers to absorb higher prices. When core PCE price index inflation averaged 6.4% during 1970-1981, the personal savings rate averaged 11.7%. By contrast, the averages for January-July 2017 showed a much lower 3.8% personal savings rate and a much slower 1.6% annual rate of core PCE price index inflation.

In addition, the latest drop by personal savings brings attention to the financial stress now facing many US households. Today’s more unequal distribution of income implies that a relatively greater number of today’s households save little, if any, of their after-tax income. When confronted with higher prices, these “paycheck-to-paycheck” consumers will be compelled to eventually curtail real spending at the expense of business pricing power.