Tuesday, August 23, 2011

UK House Prices - Update

We have entered an interesting stage of the housing market with many factors beginning to influence different segments.

Nominal Prices vs Real Prices

Stagnant nominal prices mask continued falls in real terms. Pegged against gold, silver, corn etc then house prices continue downwards. However, most of us are not very adept in profiting from this dynamic. It is easier and appears less risky to trade the debt/house price dynamic. By this I mean that when most of us buy a house we are hoping that either the value of the house goes up or the real value of our debt goes down (or both). This speculation seems lower risk as we all have to pay rent if we do not buy so if rent for the next 12 months costs £8k then as long as our house does not go down by more than this we are similarly well off. There is more to it that this including interest payments or opportunity cost of capital but never the less it seems less scary to most than trading corn etfs.

First Time Buyers

This group is going to continue to struggle but will start to find opportunities. Whilst we will continue to hear about the prime London market raging, the blocks of new empty flats in towns outside the capital are more dependent on first time buyers and they should grind downwards. The bad news that anything with a bit of character like a two bed terraced cottage may be snapped up by a retiring baby boomer who can pay big bucks.

Baby Boomers

In many areas of the country, attractive properties for these guys moving out of London, Manchester etc will stay beyond the reach of most younger buyers. There are big numbers of these buyers coming through for the next ten years who have pretty big pockets and there probably aren't enough of the right kinds of houses around to satisfy demand. Foreign money pours into London to ensure that they can continue to achieve big values for their city houses.

Concentration of Wealth to Few

This trend shows no sign of slowing. This means that big country piles, adorable second homes, and mansions in London will get further out of the reach of most of us. There are a small number of people now making vast sums and can afford third and fourth homes whilst most of the population struggle. This type of buyer will do nothing to prop up the price of an inner city flat but will for desirable rural and prime city locations.

Safe Haven Status

Precious metals, treasury bonds and agricultural land are all benefiting from safe haven demand. Houses are still seen as a relatively safe investment and for good reason. They are a physical asset, as opposed to paper, and unlike gold produce a yield which over time tends to keep up with inflation.

A cash saver currently may get a yield of 2-3% but with inflation the capital is eroded by inflation at over 4% to leave a certain loss of 2% per annum. With increased uncertainty in the economy rather than holding off buying a property there is some sense in buying real estate.

What could go wrong?

The country debt woes in Europe and US are almost certainly going to lead to lenders losing out. Even if there are not absolute defaults there will surely be negotiated write downs. Countries, compared to consumers and companies who get into dire straights, can always raise debt after defaults but investors demand a higher risk premium. It seems unlikely that some European countries can postpone this debt default line in the way that Japan has managed since the 80's - Japan has had domestic savers willing to continually buy their country's debt. Higher interest rates could be something that no governments or central bank want but can do little to prevent happening. Maybe further quantative easing will avoid this but this is by no means certain. Interest rates are capable of climbing much higher and much quicker than market expectations. This has to be the the biggest cloud hanging over the housing market today.