House prices tend to rise with inflation, so with the UK annual
inflation hitting 4.2% last week, that’s good news, isn’t it? Yes and no – let
me explain what it means for Neath homeowners.
The year-on-year cost of living rose by 4.2% in October, its highest
rate in almost a decade. The jump in prices (inflation), pushed mainly by
increasing fuel and energy costs, places further pressure on Neath household
budgets.
So, what will this rise in inflation mean to Neath house prices?
Let me look at the downsides first. The first is the effect inflation
has on the true spending power or value of your hard-earned money.
The mid-1970s to mid-1980s was a time of high inflation in the UK,
so I think that is an excellent place to start.
The average house in Neath in 1974 was worth £6,873, and by 1984 it had risen to £19,534
So, Neath property prices had risen by 184.2% in the decade 1974
to 1984.
Good news for everyone, then?
Well, as always, the devil is in the detail.
Inflation over the same decade rose by 224.2%, meaning your Neath
house was worthless in real terms (i.e. spending power terms).
If that same Neath home had gone up by the inflation rate seen between 1974 and 1984, the house would have been worth £22,286 in 1984.
That doesn’t sound a lot (the difference between £19,534 and £22,286),
until you apply that difference to today’s prices; that’s a loss of £21,626 in
today’s money.
The second is the effect of interest rates.
When inflation rises, the usual weapon of choice to reduce
inflation is to increase interest rates. Homebuyers tend not to borrow as much
on their mortgage when borrowing money becomes more expensive due to higher
interest rates.
When interest rates get high (they were over 15% in 1992) Neath
homebuyers may not even want to borrow any money at all (staying put in their
existing home). This would mean fewer Neath home buyers wanting to buy
(decreased demand). However, at the same time, more Neath houses would be
coming onto the market (because existing Neath homeowners would want to sell and
downsize because they have high mortgage payments), meaning higher supply … low
demand and high supply does drive house prices in a downward direction.
So,
does that mean you should hold off buying a Neath home?
Although Neath house prices did not keep up fully with inflation
in the late 1970s and early 1980s, they did a pretty good job (and much better
than keeping money in a savings account). You must remember your house is not a
pure investment, it’s a place you and your family live in. It’s a place you
call home. So don’t worry if it doesn’t keep up with inflation in the medium
term as your four walls offer a lot more than just a simple investment.
Ok, so let’s look at what does happen when inflation effects
property.
When your Neath house price rises because of inflation, it
increases the value of your house, not by the cost/value of your deposit. So,
if inflation increases the value of your Neath home by, say half (50%), it may triple,
quadruple, or even quintuple the value of your deposit/equity.
For example, if you buy a Neath property for £500,000 with a
£50,000 deposit and inflation increases the price/value by 50% to £750,000,
that means your equity in the property quintuples from £50,000 to £300,000. It
also means you go from (in this scenario) owning 10% equity (£50k of £500k) in
your home to 40% after inflation (£300k of £750k).
Even better if you take out a fixed-rate mortgage because you
would be making a fixed monthly mortgage payment that dropped in real spending
power ‘inflation adjusted’ pounds over the time of the fixed rate. You might
ask why? Well, you are paying less for the mortgage than you did when you took
it out (i.e. inflation erodes the actual value of money, meaning your mortgage
debt diminishes in real value terms in line with inflation).
So, holding off moving home could cost you a lot of money.
What
does this all mean for existing Neath homeowners?
It’s challenging to forecast with any certainty what will happen
with UK inflation and interest rates. I believe we will see inflation hover
between 3% and 5% in 2022, with it returning to more normal levels of around 2%
in 2023 (although I am no economist!).
We know the Bank of England base rate is just 0.1%, meaning it’s unlikely
to get any lower. I have spoken about
this in previous articles on the Neath property market and said the money
markets have already priced in an interest rate rise to 0.75% to 1% by the summer
of 2022.
So, if you haven’t already, you need to seriously consider taking
advantage of these low mortgage rates (can you believe 21% of Neath homeowners
aren’t on a fixed-rate mortgage). The bottom line is, irrespective of what is
happening to inflation and Neath house prices, being able to afford the monthly
payments on your Neath home is what counts for everyone.
Next, if you are worried about the spending power of the equity
tied up in your Neath home, you will have built up a decent buffer if you have
been in your house, for example…
The
average value of a Neath house has risen by 22.7% in the last five years, yet
inflation has only been 11.3%
This means the equity in ‘real spending power terms’ has increased
by 11.4% in the last five years.
One final thought for any Neath homeowners thinking of selling and
not buying another home, inflation could eat into the real spending power terms
of your equity in your Neath home – so now might be the best time to sell your
home to get maximum bang for your bucks. Then invest the money in other pure investments
that consistently tend to beat inflation, such as gold, commodities, or Real
Estate Investment Trusts? Again, I am giving you my opinion here, not financial
advice. You must take independent advice from someone qualified in these
matters and make your own decisions.
If you would like a
chat about anything in this article, do drop