The Private Investor: 'In these days of heavy debt, remember that cash is king'

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The Independent Online

Last week's Prime Minister's questions made for interesting viewing. Not only did we have something approaching parity between the two contenders, with two barristers facing each other as Prime Minister and Leader of the Opposition for the first time in history (I think), but we, the watching public, were also reminded of a phrase that may soon enough be making as big a comeback as that of Michael Howard - negative equity.

Mr Blair wants us all to associate that with the new Tory leader who was once a member of the Conservative government that presided over the early 1990s slump.

And a disaster it certainly was. Pretty much anyone who bought property in the boom of the mid-to-late 1980s was caught up in this trap by the early 1990s; about a million households, according to the Prime Minister's soundbites.

The price of homes across the land crashed, especially in the South-east, where the inflation had been the most dramatic. Even if you handed the keys back to the building society, they could still come after you for any shortfall in the proceeds when they came to sell the house to recover the remaining loan.

These sums could easily run into many tens of thousands of pounds. Confidence collapsed until the present boom got under way. Are we due for another crash?

The Bank of England, in its teasing way, intimates that such a possibility is not remote. The Governor, Mervyn King, says there is indeed a risk that "heavily-indebted households will be affected by changes in economic circumstances or interest rates". The Governor adds that people must "think carefully" about how much debt they can afford. It is notable that he issued his warning after the Bank last week raised UK interest rates for the first time in nearly four years, to 3.75 per cent.

I find it strange that neither he, nor his predecessor Sir Eddie George, or any Government minister said anything like that during the long period when banks, building societies and mortgage brokers would happily lend on sometimes reckless estimates of an individual's earnings potential. They really did let the boom go on for far too long without so much a proverbial quiver of the Governor's eyebrows to alert us to the possible problems ahead.

Or, as the Bank's current inflation report puts it: "The longer house-price inflation continues to exceed growth in average household incomes, the greater the risk of a sharp adjustment in house prices and thus to spending further ahead."

So the motto for small investors now ought to be "cash is king", and that means paying off those debts. Whether your mortgage is large or small there seems little chance its real value is going to be diminished by inflation. If the housing market has a soft landing, so much the better for you in the long run. If the market does go pear-shaped, you will have started to build yourself some cushion against a collapse in values.

If interest rates rise, you will help yourself escape the worst effects. Those of us who lived through the late 1980s and early 1990s, when interest rates went from 8 per cent to 15 per cent, remember well the depressing effect that had on our disposable incomes. It was miserable.

There are, of course, still secular growth stories out there, companies that will do well in the long run, no matter what. There are also shares that seem destined to do extremely well in the short term, almost no matter what. It just means you ought to be pickier than ever. I wonder, for example, if the Manchester United story is yet fully played out, despite its impressive recent run. The number of prospective buyers for the club is dizzying, and those are just the ones that we know about. Who knows what Russian oligarch is eyeing up Old Trafford as I write, ready to follow Roman Abramovich's example at Chelsea?

There is intriguing news from America, where Man Utd is busily picking up business partners to penetrate the vast US and Latin American markets. All they need now is to meet and beat Real Madrid in the Champions League.

s.o'grady@independent.co.uk

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