House Prices

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Fig. 2: Ratio of real house prices to trend


Given our estimates of where we are in relation to trend and what the trend itself is, current market conditions imply a mean expected growth rate of about 1.4% over the next two decades, whatever the actual profile. Returns for shorter holding periods, however, are definitely impacted by the profile. A positive return over, say, ten years has quite a low probability. Implicitly, therefore, owners who think they can avoid erosion of real wealth by borrowing to finance a property purchase must be expecting real interest rates for a mortgage to be no more than about 1% pa. It cannot be ruled out but it is a very low-probability outcome.

How low can we go?
In real terms, a correction from over 30% above trend to about 30% below trend, as occurred with quite high inflation between 1989 and 1996, must again be a possibility.

If you knew only the past history and had no views about particular dynamics that might shape the next downswing, you might assign no more than a 10% chance to this. But the bears are focused on the particular impact of a housing bear market on consumer confidence, on consumer spending, on jobs and on the banking sector. They might therefore assign a greater probability to such a loss. They could reasonably argue that these dynamics are more akin to the equity market conditions of 1974 and that the low could well be even lower than 30% below trend – by which time, by the way, the measured trend will itself drop below 2%pa.

As professional investors, we try to make realistic estimates of the range of probable outcomes for all the assets we advise on or manage, but not over short periods and we avoid timing calls. Having estimates of long-holding period returns, we can respond to improving or deteriorating ‘competitiveness’ between assets by ‘phasing’ in or out. This may work for equities but not for property. If you have only one shot at an important decision, you cannot avoid making a call. I hope these fairly technical observations help you make that call, whether you are a would-be buyer or a seller.