What are your views on both commercial property, now that the values have taken a battering and also residential property?
Readers of this column will no doubt recall we have been warning of a bubble and a potential house price crash for nearly two years. Instead the bubble got bigger. Whilst millions poured into property via commercial property funds lured by their perceived security, we told you to sell.
The simple reason is the numbers didn’t stack up. Now that sentiment has turned negative they won’t stack up for a few years, despite the fact that property funds have been hammered, with Aberdeen property share for example down over 35% for the year 1.
We forecasted it on the basis that the yield on property (rental income after expenses) was less than cash. In basic ‘A’ level maths they will explain Sharpe ratio, which is the potential for return over a risk free asset for the risk you are taking.
Why would you buy an asset that returned less than cash as a yield? Most were sold on the basis of the potential for the capital value to rise which of course is nonsense. If the capital value gets higher the yield is falling thereby providing a yield even lower than cash.
So people were poured from their melting with profit bonds into fermenting property funds and the inevitable has occurred. We also told everyone to take their cash and run, as it wouldn’t be long before the market went pear shaped and the companies providing such bonds put a six month block on the exiting asset. Guess what? They are in full flow and most companies have halted the exit by applying that six month block.
The biggest threat, however, is the forced redemptions. What do I mean by that? These funds are required to keep a certain amount of cash for liquidity. If everyone starts to sell their funds the fund provider will need cash to pay them out.
The only way they can do that is to liquidate (sell) assets (property).If they are all trying to sell, they will need buyers. If there are no buyers and the managers need cash quickly, this massive increase in supply will force the market price down. If customers carry on with the current stampede of selling their property funds back, we are not far away from such a collapse, which is why the managers apply the six month block to calm things down.
We know that residential property is also taking a battering despite the spicy talk ups from those with a vested interest.
Consider the most recent figures from the land registry: We know that house completions are down month against month on the last year. June this year was down 5.75%, July 6.1%, August a staggering 10%, September down 22.34% and October (most recent figures) down 20.8%. Detached houses are faring worst with a price fall in each of the last three months of the year 2
This is a potential crisis as the real issues with housing have not bitten yet. How many people have a mortgage that was on a fixed rate? How many will now come off it and onto a variable rate with a near 60% increase in payments? These numbers will only serve to batter consumer confidence as capital values are wiped off.
The natural action would be to stimulate the economy via a rate reduction but the Bank of England have inflationary pressures which are very real and very threatening. It is unlikely they will be as generous as the US have been with their rate decreases and further to Mervyn King’s comments that we should ‘tough it out’ we can expect small decreases until the inflationary pressures abate.
If you have a financial query call Peter on 0800 0112825 or e-mail info@wwfp.net and take a look at our sections on Mortgage or Business Finance.
Source
1 Trustnet.
2 Land registry
The value of shares and investments can go down as well as up
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