How Rising Inflation Benefits Property Investors

Property Can Protect You From Rising Inflation

How the Rich have built generational wealth: inflation

This write up is going to show why understanding inflation is such a powerful tool. And how you can use it to benefit from property. It also shows you exactly why the government like inflation too.

a chocolate Freddo bar In 1994 cost 10p. at the current date of 28/04/2020 the bar costs 30p. It doesn’t mean the chocolate bar has got more expensive to produce in fact it has got cheaper. The difference in cost is due to inflation.

Inflation is measured in many ways but we will talk about the Consumer Price Index (CPI). This is measured by taking many ‘goods’ prices and seeing how they have changed. Averaging out the CPI yearly from 2000 it works out to be roughly 2.1%. Meaning something which was £100 this year would be worth £102.10 next year.

This is important because £2.10 may not look like a big number but when added year after year it can make a big difference.

Why does inflation happen you ask?

· More demand for goods than there is supply. (A current example is if people continue to buy toilet roll the demand will become higher than the supply, therefore, the companies may up the prices because they know people will pay it)

· Increasing the money supply into the economy (Quantitative easing: effectively given a person more money to pay for the same goods or service, please understand this is incredibly simplified version of the reality, but serves its purpose for what I am trying to explain)

Believe it or not inflation is a good thing as it stimulates the economy. If inflation was to become negative it would mean that person x who was going to buy a product would wait until next year because they know that item will be cheaper. Therefore, by keeping the inflation rate positive it encourages people to spend. Generally, inflation rates hover around the 2% mark.

So why should you care about inflation?

Because inflation can erode your wealth. If you have for example had money in a bank account since 1990 earning no interest and the rate of inflation was the average of 2.1%. That money today would give you 33% less purchasing power. That means a 1/3 of your wealth gone.

So how do property and inflation tie together?

There are a few factors that make property investing a gem.

1. Rent. Rent tends to rise in line with inflation. The Office of National Statistics (ONS) informs us that 30% is an affordable rent and around the average of what people pay in the UK as a proportion of their salary. The demand in my area is slightly higher therefore on average I believe that people pay slightly more as a proportion of there wages.

If the cost of living rises the wages will have to follow for people to be able to afford to live. People get paid more it means that the 30% proportion rises once again.

Now this is a rule of thumb. You could have a good tenant which you don’t want to scare off, or wages aren’t increased but inflation is still rising. There are many factors at play

Statista shows the inflation rate for 2019 at 1.8% and the ONS show that on average the rental price paid during 2019 grew by 1.2% so a 0.5% loss to inflation. It shows that rent roughly follows inflation. If I was to average this over the last 20 years, I can imagine that inflation vs rent graph would be very similar.

2. Debt erosion. Let’s say for example you take 100k debt out for a property. You will still owe 100k in 30 years but because of inflation that money will be worth less by then. This is because the inflation rates have been eroding the debt during this whole time. And this is the exact reason government wants inflation to happen. Because it is eroding away the national debt.

For example, If you took the 100k debt out in 1990, today your 100k debt would have 67k purchasing power meaning that you owe less money.

3. It becomes super exciting when you use leverage (mortgages) and take into account capital value. Over the long-term house prices tend to rise faster than inflation mainly because of Supply and demand issues in the UK. Leverage and inflation is where it bangs. You buy at 100k, 2% inflation makes it worth 102k next year. now you have gained at the same rate of inflation so there is nothing special here.

However, let’s say you buy with 25k deposit and 75k mortgage. The same thing happens 100k to 102k because of 2% inflation. Take the 2k gain and add it to the 25k which means 27k equity you have then made a percentage increase on your investment of 8% correcting with inflation of 2.1% means that you made an actual gain of 5.9%.

So in summary you can buy an asset in which the passive income is inflation-proof because of the rent rises. And over a long term hold strategy the debt you owe on the property will have a much lower real monetary value when you come to pay it off. And the last point which just makes it mouth-watering is that you can leverage the debt and make your returns amplified.

Obviously, there are risks such as deflation and this will have the opposite effects on what I have explained, however, historically there have been more years in which there have been inflation than deflation. As it is in the government interest to ensure prices inflate to reduce the national debt. After listening to the US Federal reserve bankers they edge on the side of over-inflating which is dangerous for reasons I will not go into here.

Lastly there is a risk of capital value in the property dropping just as well as rising. My strategy to mitigate this is to play long term. 30 years at least. I don’t play for short term profits and the markets have historically gone up.

I know a lot of people who fail to see that their savings are being nailed by inflation. In accounts that have 0.5% interest rates, And unfortunately, if you choose to be ignorant about topics such as this then you are losing. You have been entered into a game whether you realize it or not. You were signed up from the moment you started earning money.

Essentially you get rewarded for investing and spending and penalized for savings. You can see this in the current marketplace. Banks are offering 1.5% on savings and the average inflation is 2.1% ill let you do the math.

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Real estate Investor / Adventure / Personal Finance / UK

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Cameron Tait

Cameron Tait

Real estate Investor / Adventure / Personal Finance / UK

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