February 22, 2008

More news on inflation and its potential impact on the US economy and the impacts this may have on the Costa del Sol's housing market.

I just read a really good article on future scenarios that may play out in the US economy and the whether we are in for an inflationary or deflationary period.

The article puts strong emphasis on the inflationary outcome: as "For a sufficiently motivated government, inflation breaks deflation. Always and without exception, period, end of debate". It points to the US governments continual efforts to print money "out of nothing" and redistribute this money as a tax rebate stimulus. The key economic concepts behind the article's promotion of the inflation hypothesis is

1. The potential supply of money is infinite for a nation that issues its own currency.


2. The supply of resources to purchase with money is always limited at any one point in time.


3. By sufficiently raising the supply of money relative to the finite amount of desirable goods and services, there will necessarily be more dollars competing to buy each asset, and the dollar denominated price will always rise for the asset.


4. The meaning of inflation is an increase in the dollar prices of goods and services, which is the same thing as a decrease in the purchasing power of every dollar.


5. So long as a government is willing to sufficiently increase the supply of money, it has an absolute power to destroy the value of its own currency through the oversupply of money relative to assets, which is an absolute power to break deflation with inflation.

(Taken from the article by Daniel R. Amerman, CFA)

With the potential supply of money being unlimited and tangible resource being limited the stimulus package will have a quite real and direct effect: that of diluting the value of the dollars held by savers, through increasing the number of dollars in circulation, with no corresponding increase in the amount of real resources.

The article pushes for inflation planning scenarios for investors and points to portfolios consisting of tangible limited resources such as houses, commodities, metals, etc. There does seem to be some silver lining for all the people holding investment properties on the Costa del Sol. Property is a time proven instrument for withstanding the devaluing effect of inflation provided the investor can meet the costs of finance. IMO its time for everyone to start fixing those mortgages as I did with mine one and a half years ago.

Posted by bsl1 at 9:25 AM | Comments (0) | TrackBack (1)

February 18, 2008

Is inflation that bad for property owners in Spain.

You can't open a financial paper these last weeks without being confronted with the word 'Inflation'; it is the talk of the day and it is responsible for rising interest rates which make our mortgages more expensive. Now, there is a big difference between the causes and the consequences of inflation, something that confuses a lot of people. Rising prices for goods and services are the consequences of inflation not the cause. The cause of inflation is monetary policy realised in the form of credit expansion.

The money supply statistics which can be found at the back of the Economist magazine, showed us in MAY 2006 that Denmark now has 12,8% more money in circulation than the year before. Since all this money needs to go somewhere it is no surprise that the Danish economy is grew strongly and that Denmark was at the top of the international house price index. There is a big correlation between the money supply and economic growth and real estate prices. The problem is that governments want to avoid the effects of inflation filtering through to our wages. This is because it would make the western economies export markets more vulnerable to the stiff competition from the East. To combat this they raise interest rates which in turn impacts on the consumer.

Even though interest rates are still at a very low level currently, this means nothing since this has caused more borrowing than would have occurred with higher rates. An startling fact is that an interest rate rise from 3% to 4% is actually an increase of 33% on any mortgage repayment. Furthermore, the knock on effect to credit controls means that fewer people will qualify for a new mortgage and some people will actually fall behind with their repayments to the bank. So, how can all this bad news actually be good for property owners? Here's why:

Initially it will put extra pressure on the real estate market since people cannot borrow as much anymore given that their wage has stayed the same, furthermore this can lead to a small chain reaction: as real estate activity slows down, fewer new projects will be started leading to job losses and it will negatively impact consumption since there are many people out there who took a mortgage on their existing home simply for consumption purposes. In my opinion this will mostly affect the 'marginal' buyer whose bank repayments are a monthly struggle. The average consumer will become a more cautious, perhaps try to save a little bit more and it will stop them from speculating with off-plan properties. The off plan sales pitch for international investments will end soon and off-plan property will become very 'unfashionable' and extremely risky.

Now comes the good part: as fewer people will be able to buy (but everybody needs a home) rents yields will start to creep up. Where many markets are now facing oversupply (Costa del Sol being one of them), this will gradually start to diminish as inflation will make new built or drastic reforms too expensive. In times of inflation people are looking for defensive means to invest in, which will at least secure their purchase power; historically real estate has proven to be the best investment in the beginning of an inflationary period. Eventually, this new demand will start pushing prices further up. So do I suggest buying tomorrow? Yes, as long as you stay away from 'generic' properties such as two bedrooms, two bathrooms apartments: there is an oversupply in those and most of them lack every minimum of both creativity and quality. Much more promising are e.g. townhouses, since a lot of people who now live in apartments will want to upgrade to a better, more ample property. On the property section we focus on those unique properties that will definitely better preserve and increase in value, some of them can now be bought 30% cheaper than a year ago (check out this one in La Quinta). So inflation is nothing to worry about if you are a home-owner, it's actually great news as long as you make sure that your properties are well managed and well financed.

So to recapitulate, here are three super reasons why inflation is good for property owners: 1. As fewer people are able to qualify for a mortgage because of the higher interest rates, rental demand and rental yields will dramatically improve. 2. As inflation filters through in wages and material cost, new built is becoming too expensive to be economically viable which in turn will divert home purchasers to existing homes. 3. In times of insecurity, such as inflation, people tend to look for defensive investments that will preserve the purchasing value of their money. Historically real estate is second to none as a defensive investment.

Posted by bsl1 at 11:13 AM | Comments (0)