Bringing the house down

An extremely readable piece in yesterday’s Guardian magazine on the UK property market: how it got like it is, why it’s so different to its friends overseas, and what’s (in his opinion) likely to happen. I found the background more interesting than the predictioneering, of course. Tasters:

Say you bought your house in 1970, and paid the then-national average price for it: £4,378. At the peak of the current spike in prices, that same average house would have been worth £184,431. Congratulations! You’ve multiplied your money almost 43 times. You’re rich, do you hear me?

Rich! Except you aren’t, really. Strip out the effect of inflation, and that spectacular sounding 4,300% price rise works out as 2.4% a year in real terms. This is close, in other words, to the historic long-term average for investments regarded as being more or less without any risk at all. That’s where the expression “safe as houses” comes from.

British householders are allergic to fixed interest rates; we prefer variable loans. No one quite knows why, since fixed interest rates often make good sense, and have the effect of transferring some of the risk of the loan to the banks. If you have a variable rate mortgage, and the central bank interest rate goes up, you feel it in your pocket; if you have a fixed rate and the same thing happens, the bank feels it. In the US, the two institutions designed to help the banking system to bear the risk of this fixed-rate lending are called Fannie Mae and Freddie Mac. That’s the same Fannie Mae and Freddie Mac that on September 7 were taken over by the US government in the biggest nationalisation in the history of the world; and the reason they went under was precisely because they were swamped by the cost of these risks.

Towards the end of 2006, the average investment yield on a buy-to-let property no longer covered the mortgage that had been taken out to buy it. In other words, the average buy-to-let investor was losing money on a monthly basis. The reason for hanging on in there was the hope for capital growth. But house prices in the UK are now in decline. The Nationwide survey for the year to October showed a decline of 14.6%; add the CPI inflation rate of 5.2%, and prices have fallen almost 20% already. So for those buy-to-letters already losing money on the interest payments, capital growth now looks some way off. Depending on what was paid for the property, it may be many years off. If all buy-to-let investors realise this and stampede for the exit at the same time, the UK property market will go off the edge of a cliff.