The Anatomy of Mortgage Stress

Using data from our household surveys, we track levels of mortgage stress in Australian households. Today we outline our updated findings and projections based on likely scenarios for interest rates and unemployment.

Mortgage stress is a poorly defined term. The RBA tends to equate stress with defaults (which remain at low levels on an international basis). A wider definition is 30% of income going on mortgage repayments (not consistently pre-or post tax). This stems from the guidelines of affordability some banks used in 1980’s and 1990’s, when economic conditions were different from today. This is a blunt instrument. DFA does not think there is a good indicator of mortgage stress, so we use a series of questions to diagnose mortgage stress focusing on owner occupied households. Through these questions we identify two levels of stress – Mild and Severe.

  • Mild = households maintaining repayments, but by reprioritising expenditure, borrowing more on loans or cards, and refinancing
  • Severe = households who are behind with their repayments, are trying to sell, are trying to refinance, or who are being foreclosed

We maintain a rolling sample of 26,000 statistically representative households using a custom segment model nationally. Each month we execute omnibus surveys to 2,000 households. Our questions provide a current assessment of mortgage stress. We also model and project likely mortgage stress given the current and expected economic conditions.

The questions we include are:

  • Are you currently up to date with your mortgage repayments?
  • Are you concerned about being able to make your current or next mortgage repayment?
  • In the last six months have you had reason to delay payment of your mortgage installment?
  • In the last six months have you cut down on luxuries to make sure you can pay your mortgages?
  • In the last six months have you reprioritised your general spending patterns in order to ensure you make your mortgage repayments?
  • In the last six months have you found it necessary to borrow more on credit cards or loans for personal expenditure so as to enable you to pay your mortgage installment?
  • In the last six months have you sought to refinance your mortgage to make it easier to repay?
  • In the last six months have you spoken to a bank or a broker about alternative repayment options or capitalising interest?
  • Are you currently more than 3 months behind with your mortgage repayments?
    In the last six months have you started to try and sell your property because you were unable to pay the mortgage?
  • Have you in the last six months received any notice of foreclosure from your mortgage provider?
  • In the last six months have you sold your property because of problems with making repayments?
  • In the last six months have you approach your lender under their customer hardship scheme?
  • Do you believe you are under mortgage stress?

We developed an algorithm to take answers to these questions and score the results.

The most recent data, to end January 2014 is in. At the moment 15% of first time buyers are in some form of mortgage stress, with 41,200 first time buyer households in mild stress and 19,800 in severe stress. Amongst other owner occupied households, 4% are in stress, with 30,000 in mild stress and 12,200 in severe stress. Here is the trend data for all Australia (I won’t cover the state-by-state analysis now), and projections, assuming that interest rates stay at current levels til later in the year, then move up slightly, and unemployment stays around 6%.

StressFeb14-1We can also look at the drivers of mortgage stress.

StressFeb14-2As expected, interest rate settings have a big impact of stress levels, because rates impact repayments, and interest charges on credit cards (which by the way have not followed the cash rate down as far). Many households have “got out of jail” thanks to the significant reduction in monthly repayments. Investment performance is a factor, especially in the uncertain times after the GFC. Costs of living (everything from costs of food, transport, utilities, school fees and child care) have a significant impact. Unemployment, or fear of unemployment is also critical as work status significantly impacts the ability to maintain mortgage repayments. After 2007, in the US, it was rising unemployment which put the nail in the coffin of the housing market. Other factors like illness, or relationship breakdown also figure.

We also see that the changed regulatory environment is having an impact, with households now less able to refinance, without the “not unsuitable” test (thanks ASIC) and lenders required to offer assistance in cases of hardship.

We previously highlighted the effects of stress on the 2009 class of first time buyers. Because the number of first time buyers are down, whilst investor loans are up, we are seeing overall stress levels down, helped by all time low interest rates, and contained unemployment.

That said, we know that there is a concentration of risk in specific household groups, where they are keeping things afloat by putting more on credit cards.

With house prices racing away, and mortgages growing in size in the current low rate environment, many households will hope that rates will stay down for a long time, and employment prospects do not turn sour. If cash rates or unemployment rise higher, all bets are off.

 

 

Author: Martin North

Martin North is the Principal of Digital Finance Analytics