We’ve all seen the headlines. ‘Consumer debt crisis deepens as bankruptcies hit a 40-year record’; ‘Property repossessions up 51%’; ‘Doorstep lender issues profits warning’; and ‘HSBC hit by difficult credit markets’.
But the current state of UK personal finances is not remotely as bad as the headlines suggest. Newspaper headlines are there to capture your attention and engage the public’s emotions. And as emotions go, fear about debt spiralling out of hand is a pretty potent one. But let’s look beneath those headlines above and find out what’s really going on.
People are using bankruptcy as a ‘quick fix’
Let’s consider personal bankruptcies. The number of people who have buckled under their debts has indeed reached its highest level since records began in the 1960s. Although personal insolvencies have been rising steadily since 2002, they have really skyrocketed over the last 12 months particularly. There were 11,200 individual insolvencies in the second quarter of this year, which was up 12% on the previous quarter and a massive 37% increase on a year ago.
But what’s interesting is that such a leap cannot be explained by the slight deterioration in economic conditions. In fact, the economy would have to fall off a cliff to cause this sort of effect. So what’s causing the record levels of personal insolvencies? Where does the answer lie? In a word: legislation.
The 2004 Enterprise Act has made bankruptcy proceedings easier. Increasingly, people are declaring themselves bankrupt, rather than being forced to do so by a creditor. In the second quarter, three-quarters of bankruptcies were volunteered rather than enforced. Indeed, Individual Voluntary Arrangements (IVAs) are up 70% over the last 12 months. IVAs have become a popular and easy way to address debt problems. The debtor does not have to instruct a solicitor or accountant, but just has to fill out some forms.
So the leap in personal bankruptcies has more to do with a more lenient bankruptcy regime than anything else. In fact, HSBC’s Chief Executive, Stephen Green, cited a change in the law on personal bankruptcies as a reason behind the bank’s increased bad debt provision for its UK consumer operations.
Debt problems are specific, not general
If you look beneath the headlines, moreover, you will find that the increase in debt problems is actually occurring in the 20s to early-30s age bracket, and the loans are of the unsecured variety. Indeed, while HSBC warned of difficulties among consumers who have borrowed heavily using credit cards or consumer loans, the bank saw no sign of increasing arrears on mortgages, which accounts for the majority of household debt.
It follows that not all lenders are in the same boat. A lender exposed to the high-margin unsecured end of the market is much more vulnerable than a lender with a secured loan book with customers exclusively at the top of the age range.
Only last month consumer credit provider London Scottish issued a profits warning (it expected profits to be 25% lower than forecast), citing lower loan book growth and rising bad debts. But the markets marked the whole industry down as a result.
Let’s put arrears and repossessions in perspective
But you might ask, given the sharp rise in house repossessions, isn’t secured lending also risky? Again, let’s take a close look at the figures. Last month the Council of Mortgage Lenders reported that property repossessions had risen to 4,640 in the first half of this year from 3,070 in the final six months of 2004 – a 51% increase.
However, the number of repossessions in the second half of last year was the lowest figure for over 20 years. In actual fact, repossession levels in the first six months of 2005 are similar to the levels seen in 2002 and 2003; and considerably lower than in 1991. Properties taken into possession totalled 75,540 in 1991. To put it another way, the current half-yearly repossession rate is around one in every 2,500 mortgages, compared with around one in 250 when the repossession rate peaked in the second half of 1991.
Mortgage arrears are also historically very low. The number of mortgages that are more than 12 months in arrears at the end of June 2005 was 12,380, which is similar to the number recorded in December 2003 and well down on nearly 152,000 at the end of 1991.
The conclusion is straightforward. If you look beneath the scaremongering headlines about the UK sinking in a sea of debt, you will find that the rise in personal bankruptcies is exaggerated by changes in legislation. Debt problems are concentrated among the young and are of the unsecured variety, while house repossession rates and arrears are extremely low historically.
By Brian Durrant, Investment Director of The Fleet Street Letter.