Rope Ladders, Balconies and the Art of Balance

Recently released figures from Halifax show that house prices nationally have dropped by an average of 0.9% between August and September 2015. The market is still suffering from a stark imbalance of short supply and upwardly spiralling demand, only restrained by the relative increase in difficulty associated with obtaining finance to purchase property in the form of mortgages.

Mortgage rates remain low, which fuels the demand further.

The typical price of a home however remains 8.6% higher than the same time in 2014. Halifax feel that at this time the market will remain strong with prices continuing to hold steady and rise over the coming months.

So, in light of this news, what could topple the house of cards? Something that everyone seems to continually avoid discussing - so in my typical style, I've decided to roll up my sleeves and plunge both hands into the sticky gooey mess. Lovely!

Interest rates (i.e. the cost of borrowing, or conversely the risk of lending - depending on which end of the seesaw you're sitting on) are, in my opinion, the elephant in the room - nobody seems to want to discuss rising interest rates in case by some force of magic they skip up to the horrifying levels of 12-14% that we saw in the early 1990's. A rise in interest rates would slam the door shut for many who are currently able to afford mortgage finance, assuming they can tick all of the boxes during the inevitable interrogation from the banks.

It's unlikely that the government will overlook areas that would cause uncontrollable rises in interest rates, since the nature of these changes is always symbiotic and higher interest rates usually herald reduced consumer confidence, less disposable income, a focus on saving rather than spending and a consequence of a slowly shrinking economy, effectively undoing any hard work that has gone into achieving growth in recent years.

The MMR (Mortgage Market Review) rules which were introduced last year have previously come under harsh criticism for making borrowing more difficult to achieve for those struggling to purchase their first property and those looking to move up to a larger home, but being too relaxed on lending can have catastrophic results as we all know. Suspending our knowledge for now of the fact that most of the funds we are living on is supported by little more than our belief in it's intrinsic value (i.e. it's Fiat, there's no Gold backing our national currency), to open the sluices and allow a flood of uncontrolled lending would sweep away our foundations and repeat the harsh lessons we learned in 2007. This time around however the public are likely to be much less forgiving of government and banking irresponsibility.

Indeed, last time this happened we bailed out the banks purely because if we hadn't there would have been what can only be described as anarchy - the banks effectively held the government to ransom so they had no choice but to prop the whole thing up to avoid civil unrest and all the fun of the fair that comes with it. The comedy of this is that the public end up getting clobbered no matter what happened, but that's another story - we digress.

The government is therefore currently throttling demand by restricting borrowing - and by throttling I mean controlling the flow of demand in the housing market, rather than suffocating it - the restrained growth we're experiencing very much feels like we're paying out the main sheet oh-so-carefully in a strong gust to prevent us from capsizing the whole yacht.

The other side of the coin is that more housing is required - any fool can see that this is an undeniable truth. This too comes at a price. Diluting the stock too quickly will ruin the gravy - if you build too much, too soon, then demand for 'second hand' property (i.e. houses that we are trying to sell today) will see a fall in demand. However slight this may be, it will have a knock on effect. When nobody wants to buy something you have two choices - stop selling it or make the price more attractive. The net result?  Prices fall, equity is lost and the potential for a 'domino effect' of price drops and loss of confidence spreads like wildfire.

This also takes a tributary feed from the Buy To Let market; squeeze Landlords too much and they'll stop playing, pick up their ball and go home. There is absolutely no good reason for investors to put their money in an asset which doesn't generate significant capital gains or adequate cash flow. Some may criticize this, but in fairness it would be madness to let funds languish in investments that are no longer producing income. That door will shut and many Landlords may sell up, whether through necessity or choice, simultaneously generating a very welcome flood of stock for first time buyers, but utterly hammering the market position of anyone on the next rung up.

So we're playing a very careful balancing act - we can't lend too much, we can't build too much, we can't pinch too much with legislation and all the while prices are rising which is steadily making it harder and harder for people to buy and progress.  Think of an M.C. Escher style scene where a man on a balcony is pulling a rope ladder further out of reach of the person below him - this is rising house prices in action.  Now imagine a further balcony above, with another figure who is also pulling up their rope ladder - that's the widening gap between where he is and where he wants to go.  Rising house prices are relative, and that explains why - the only way around a rope ladder that is out of reach is to compromise and aim for a different balcony.

The problem with this situation is that rising prices are great if you've got a string of balconies and ladders beneath you, but they're awful if you're standing on the ground desperately leaping for the bottom rung and you need to buy some stilts from the bank to do it (who incidentally also own all of the rope ladders and the penthouse balcony, but forgive me for being cynical).

So will everything blow up in our faces? It's unlikely when the government is quite deftly playing puppet master to keep the strings and pulleys in motion while this all plays out, and while the show must go on, the curtain will fall eventually and one of these levees will break - will it be interest rates? Population growth? Economic growth? Too far one way and it all grinds to a halt - everyone will be at stalemate, and too far the other way and we'll face a runaway train with one final destination.

To wipe away the ash from this gloomy prediction - and I will always admit that I could be very wrong, after all I'm just saying what I see, I'm not a soothsayer, clairvoyant or a mystic - the key thing for any of us to do is assess the risk as it presents itself to our personal circumstances. Will buying or moving create a level of risk that you could not handle if things were to change? If the risk is something you can't bear, then stay put and wait unless pushed. But if you're smart and you can see a way through the jungle, then take the leap and swing from vine to vine (or climb from balcony to balcony) - remember that nobody ever got anywhere by standing still.