We heard last week that the Bank of England was going to raise interest rates to slow down the apparently runaway housing market (it didn't), and we hear predictions this week of a market crash all on its own anyway. Many of these doomsters were saying the same about the stock market back in 2000 - that they had said it every year since 1995 is quietly ignored. Indeed, if their pedigree in the stock market is to be taken on board, houses ought to more than double before falling back 30 per cent. Frankly I doubt either will happen.
Houses exert a peculiar grip over the UK population, and not just because every TV channel appears to have at least one property-related show on every night of the week. Indeed, you could argue that housing in the UK fills the role the stock market does in the US. And this makes a lot of sense. For in the UK, houses are, in effect, people's pensions.
When you cease earning, if you don't own your own home, you have to have another asset that will pay you a sufficient income to rent one. Here we start to see the attraction of housing. First of all, the imputed income from owning your own home is tax free. The alternative - income from another asset to pay rent - would be taxed. Every increase in tax makes this a more valuable tax break. The second advantage is the relatively "fixed" nature of mortgage repayments. Leaving aside changes in interest rates for a moment, the imputed rent paid out to the mortgage does not rise with inflation. This is probably the key "common sense" reason most people want to buy rather than rent. Third is the attraction of gearing or leverage. While annual interest rates are below expected capital gain, the sums are wonderful. A 10 per cent gain on £50,000 is £5,000 (assuming it's tax free, which of course it wouldn't be). But put that £50,000 down as a 20 per cent deposit on a £250,000 flat, and your 10 per cent gain translates into £25,000. Allowing a 5 per cent cost of borrowing on the mortgage, your gain is still £15,000: three times what it would have been.
The reason the Bank of England should not target the housing market is not only that it would be futile - the level of rates needed to effect a cure would almost certainly kill the patient - but that it is the wrong thing to do. It is an asset price and reflects the balance of the required and expected returns of investors. Looked at in this light, saying that house prices should be brought down to enable first-time buyers to "get on the ladder" is as ridiculous as saying the Government should engineer a crash in the equity market so that we can all buy shares yielding 10 per cent. Never mind the capital loss to the existing owners; never mind that the fall in collateral would trigger a credit crunch in the financial sector; never mind that a huge cash-flow strain would be put on those homeowners with mortgages through our ridiculous mortgage system.
For most people, housing is the only investment that makes sense. It offers a leveraged play on underlying economic growth, is free of capital gains tax, provides a tax-free imputed income, and has limited downside risk. Buy-to-let is taking it one stage further. Just as we had the cult of the equity in the 1960s, so we are moving to the cult of housing.
Mark Tinker is a director of Execution Stockbrokers. Mark.Tinker@executionlimited.comReuse content