Perfect two way bet

Property investment can be seen as a perfect two way bet. Here’s why.

Let’s make no bones about it. Now the mist is clearing from the credit crunch and economic fall out, the way forward for the world economies is far from clear.

The US on which the health of the world economy depends announced record unemployment last week with 10% of their workforce now out of a job. The worst in more than a quarter of a century. UK unemployment is going the same way. Currently at 8% but many predict a rate of 10% or above in the New Year.

Landlord insurance – professional rates – discounted

This all sounds a pretty depressing environment for landlords and property investment, right?

Well maybe not. A depressed economy means a low interest rate environment as policy makers seek to shore up the gap left in the demand from the ‘crunch’ and contraction of lending, and the consequent reduction in liquidity in the global economy.

The latest manifestation of this was the announcement last week by the Governments MPC to pump an additional £25bn in the economy, through quantitative easing (QE).

This process has been instigated because with interest rates on the floor the usual methods of monetary stimulus by reducing the costs of money have been exhausted.

Low interest rates though have been great for landlords over the last few years. With many landlords on tracker based mortgages we are making unprecedented profits. An environment of low interest rates which was meant to be a temporary stimulus package is generating high incomes for many landlords.

Up until recently these rates have been viewed a temporary blip. However, if we look outside the UK to the precedents of ‘hangovers’ from previous property booms, low rates could last longer than many first thought. In Japan the economy stayed in depression for a decade after their property induced boom during the 1980’s, and inflation and interest rates stayed low despite huge attempts by the government to boost demand.

We don’t think things will be that bad here, as UK banks have been forced to clean up their act and there was not the cross holdings of companies of shares and assets that made the situation so difficult to unwind in Japan. There were also cultural aspects of honour and face and transparency which made the problems more difficult to confront than has been the case in the west.

Swap rates in the UK

However, the latest money market SWAP rates indicate that the market expects interest rates are expected to stay low for some years to come. Many economists expect rates to remain at 0.5% for much of next year.

Rental profits are high

The only downside from low interest rates is that many landlords are making significant rental profits which can be subject to income tax.

Remember you will need to submit your self assessment by the 31.01.09. To find out how you can calculate your income tax liability using our online property management software.

Flipside of a depressed economy

The flipside of this low inflation environment and depressed economy is that the property market as we all know has fallen significantly from its’ peak and remains depressed. It does however look as if the housing market has stabilised somewhat and may even have reached bottom, with prices recently recording their first rise in over 18 months according to the latest figures from the Nationwide.

We tend to agree with Savills, who see a W shaped recovery over the next few years with prices edging down and then up and then down. We still see the market getting a kick start by the ‘feel good’ factor of the 2012 Olympics and with the green shoots in the London economy slowly feeding out from the capital over the following years in the way that previous house price recoveries have progressed.

Therefore a depressed economy is not bad news for landlords on the current tracker rates as rental properties stay high. Those buying more recently or on fixed rate products will not be so lucky.

From deflation to inflation – an impossible balancing act.

The policy makers are playing a delicate balancing act. They are trying to stimulate demand and the economy by using unprecedented ‘fire power’, and in a way that has never been done before on such a scale. They are playing with fire. The chances are that they will get it wrong. If all the stimulus packages succeed then there will be an explosion of demand in the economy resulting in large inflationary pressures before they have time to turn off the tap.

Inflation as we all know is a debtors’ best friend. Many landlords are highly geared. A sudden bout of asset price inflation would do wonders for landlord’s balance sheets reducing LTVs and inflating them out of negative equity.

Banks have been forced to rebuild their balance sheet and in several years again in time for the Olympics they will be the best capitalised they have been in many decades. They will have huge amounts of capital ready to be lent out if the policy makers let them.

The scenario is then all set for another growth spurt in property prices. Rising prices and inflation would be accompanied by rising interest rates as the Monetary Policy Committee put up rates in an attempt to keep inflation below the 2% government target.

So looking at how to ride out the coming economic storm of the new decade; the so called turbulent tens! We have the competing scenarios of:

DEPRESSION

Depression – low interest rates – high rental profits

OR

INFLATION

Inflation – high capital growth – low or no rental profits

Either way residential property seems a pretty good two-way bet.

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