Brokers “steered” homeowners towards short-term mortgages to “increase fees from repeat business,” which left borrowers exposed to later rate rises, according to the Bank of England.
A jump in the use of brokers for home loans between 2013 and 2020 coincided with more households choosing short-term fixed mortgages of between two and five years, says a BoE research paper.
This left households facing greater payments when the central bank lifted the base rate 14 times in a row between December 2021 and August 2023 from 0.1% to 5.25%. Base rate currently stands at 4.75%.
In this period “brokers steered households” towards shorter mortgages “to earn fees more often”, says the working paper by Bank staff Marcus Buckmann and Peter Eccles, which reviewed over 2.2m mortgages.
They add: “Households who choose a mortgage with a shorter fixed term are more exposed to risks affecting mortgage rates, in particular the future base rate.”
“An increase in the share of mortgages with a short fixed-term transfers risks concerning the future level of the base rate from lenders to households, who are less able to hedge against and manage these risks.
This move “speeds up the transmission of monetary policy, since changes in the base rate impact household finances more immediately”.
They argue that the introduction of the Financial Conduct Authority’s 2014 Mortgage Market Review, which ruled that most mortgages sold direct to customers must require a qualified advisor.
This led to lenders relying more heavily on brokers “to avoid the increased cost” of advice.
The rise of the place of brokers in the market was dramatic following the review, the authors point out that first-time buyer’s use of intermediaries lifted from 57% to 81%.
Lenders were content with the shift towards short-term loans, because those who rely on short-term funding, such as deposits, to finance mortgages, see a “maturity mismatch between assets and liabilities,” say the authors.
But, “market conditions that steer households towards mortgages with shorter fixed terms make this maturity mismatch less acute”.
The authors also point out that brokers benefit smaller lenders by giving them greater national coverage, allowing them the scale to focus on specialist products that larger banks cover in less depth.
Private Finance technical director Chris Skyes says: “In terms of brokers pushing borrowers towards shorter term fixed rates for the more frequent commissions, this is scary if true and I wouldn’t say reflects the entire industry. As a broker, we need to have a client’s best interests at heart.”
Mortgage Finance Brokers business development director Jeni Browne adds: “The assumption that brokers are steering clients to shorter term fixed rates for their own gain feels disingenuous.
“Many borrowers prefer two- or three-year fixed rates because of the shorter early repayment charges and thus flexibility they bring.
“We need to remember that the study covered a period of time when rates had been low for a long period, so taking a two-year fixed rate would have been perceived as less risky as interest rate volatility was simply not present.”
JLM Mortgage Network group director Sebastian Murphy points out: “What the report fails to mention is that the reason why brokers were placing many mortgage customers on two-year fixes during those years was that rates, in general, were falling but had not yet reached a floor.
“Why would you recommend a five-year fix, for example, at a higher rate when you believed rates would continue to fall – as they indeed did.
“Instead, advisers prioritised getting their customers onto lower LTVs by recommending two-year rates, in anticipation of borrowers then being able to access lower rates in two year’s time due to a combination of mortgage product rates having continued to fall and customers being able to secure lower rates by dint of them having brought down their loan to values.
Murphy adds: “However, by the late 2010s/early 2020s, the markets were suggesting that rates had bottomed out, and what we find is that at this point, advisers began to recommend more five-year fixes which has effectively saved a lot of mortgage borrowers, given the tumultuous nature of mortgage pricing particularly since the end of 2022.”
Private Finance’ Skyes agreed with the paper that brokers have increased the coverage of smaller lenders, such as regional building societies.
He says: “This has definitely diversified where lenders are lending and can reduce risk for these lenders.
“There are sometimes restrictions that apply, some regional building societies for example have loan to value restrictions on London and the South East and can give additional flexibility to those in their region, but lots of these lenders have incredible flexibilities that others and mainstream lenders do not.”
The BoE working paper by Buckmann and Eccles is called, ‘The effect of mortgage brokers on banks’ business models’.
