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Moneyweek: How Hedge Funds Affect House Prices

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Talking about sub-prime lending:

Investment banks are getting into the mortgage market because they can earn fees by packaging up all those individual mortgages and selling them on as residential mortgage-backed bonds.

The more credit risk these bonds carry, the better the yield. And high yield is exactly what hedge funds are looking for. Because mortgage arrears are still low by historical standards, “the bonds have performed well”, says the FT. So that increases hedge fund demand even further.

But it’s the phrase, “low by historical standards”, that’s the problem. As the FSA said: “The credit scoring techniques have so far proved robust but most have only been developed in the last decade, under relatively favourable credit conditions… There is a possibility that the current rates do not correctly price the risk of a downturn.”

Just a possibility? Repossessions and arrears are rising, and bankruptcies are already at record highs. Unemployment is ticking higher, and global interest rates are also rising – which will put pressure on our own Bank of England to hike rates.

We’d say it’s a raging certainty that the risks of sub-prime mortgage debt – just as with almost every other asset class across the globe – have been underpriced.

If demand for these sub-prime bonds collapses, mortgage lenders will rapidly have to tighten their lending criteria. That would result in the fastest-growing corner of the mortgage market become the fastest-shrinking.

What would that do to house prices? Well, we can't see into the future - but take a look at the recent stock market plunge if you want a reminder of what happens when investors start to worry about risk again.

I think all the high-risk lending which the housing market has seen (10% of lending at present) is going to have a major impact somewhere down the line.

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basically ... Junk Bonds. Subject to credit risk and interest rate risk. If investors deem them to be too risky for their yield, demand will dry up and the lenders would be forcd to tighten up their lending criteria. If we have a recession the bonds could become worthless.

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  • 301 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?

      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%

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