Asset prices have been rising over the past decade, supported by cheap credit. The manner of its removal will determine property market performance, argues Liam Bailey
With interest rates on the rise in the US, and central banks stepping back from asset purchase programmes that have largely served their purpose, the cost of money is beginning to rise. It is therefore a fairly safe bet that the next decade will not see a repeat of the double or even triple digit property price growth we have seen in leading markets over the past ten years.
To gain a better understanding of how property prices are likely to perform, we need to consider the likely shape of the unwinding of quantitative easing (QE). This is not just the usual story of central banks setting out to tame surging economic growth.
In the current cycle, a key objective is the normalisation of monetary policy, so that there is room for manoeuvre to cut rates again when the next downturn comes. It’s a balancing act that means central banks will tread carefully as they withdraw the economic sugar hit of QE. Indeed, just how cautiously they move will determine the impact on asset prices.
It’s fair to say that the pace of action so far has been incredibly slow. In the US, the Federal Reserve first started signalling the end of QE in March 2013 but only began tapering, slowing the purchase of assets, in December 2013, famously sparking a “taper tantrum” on the financial markets.
Despite this process, total assets held by the Fed at the end of 2017 were still US$425 billion higher than when tapering began. At the same time, it took two years for the US Federal Funds Rate to rise from 0.25% to 1.5% in December 2017.
The inference of this is that the era of low borrowing costs will be with us for some time to come – but also that the pace of the rise should allow property markets time to adjust. For investment property, as long as rental growth is outpacing the rise in the cost of capital, the investor should be able to ride the shift away from ultra-low rates.
There will undoubtedly be changes to market behaviour. It will become harder to generate exciting returns. Opportunities for added value through active management of property are already much more sought after. This is, after all, the great advantage of property compared with passive equity or bond investment: the ability to influence returns through improvements, development and leasing strategy.
Accepting the average returns on offer in a market will not be enough – because the average will be underwhelming. Location and property selection and active management will be the key to success, and so too will be the need to be alert for inflection points. Central banks will no longer be doing the heavy lifting.
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