Landlord Inflation Hedges

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As we emerge blinking into the watery sunlight of a post-pandemic, lockdown free world (at least for now), landlords and property investors are reflecting on the impact that the pandemic has inflicted upon their businesses/investments.

Throughout the crisis, we faced a number of challenges such as tenants not being able to pay their rent, or only being able to pay a portion of it, gaining access to properties to carry out maintenance has been problematic and various other restrictions that were brought in to protect tenants, with little concern for the poor landlord on the other side of the equation.

Now that Coronavirus is starting to be classed as endemic, it might be tempting to sit back, relax and think that all our problems will now resolve themselves.

Unfortunately, this is unlikely to be the case. The pandemic’s legacy will present a new set of issues, which we should at least be aware of, so that they can be addressed as-and-when necessary.

First some background…..

Monetary Policy

As the government sought to grapple with the economic consequences of a nation in lockdown numerous measures were introduced in an attempt to stave off a full blown recession, such as the furlough scheme, the stamp duty holiday, quantitive easing, government bond buying and interest rates being kept at historical low levels.

Many of these measures (or similar) were also introduced around the world and as a result, global markets seem to have become addicted to cheap money.

The ‘I’ Word

As we entered lockdown, forecasters were predicting financial doom and gloom across the world; property prices would crash by at least 15% and we would enter a global recession to match the great financial crisis of 2008.

In reality, and partly as a result of government stimulus packages, house prices have actually soared and global equity markets have skyrocketed, easily surpassing pre-pandemic peaks (in the US at least).

Meanwhile, lockdowns and the accompanying ‘ping-demic’ have actually put a huge strain on manufacturing and supply, which is now starting to show through in global inflation figures.

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UK Inflation

As we can see from the chart above, inflation has indeed shot up in recent months. (The en d of the graph represents a figure of 5.4% in December ’21. This trend appears to be continuing into 2022.

The Bank of England target for inflation is to keep it below 2%. We can also see from the chart that we have often been above this level over the last three decades.

The Real Culprit?

There is no doubt that as a result of limited supply and labour shortages, costs of goods, manufacturing and logistics have all increased, which in turn affects the profitability of most businesses.

Inflation can often be self-perpetuating (this certainly wouldn’t be the first time we’ve talked ourselves into a recession)! However, the real culprit on this occasion may well be the vastly increased cost of energy.

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As the world went into lockdown, global stocks and commodity prices fell pretty dramatically and then started to slowly recover. But in the case of oil, prices bounced back even more dramatically, resulting in a circa 475-fold price increase from trough to current peak. Brent Crude is expected to breach the $100 per barrel price in the very near future. A price not seen since 2014.

(Source: Trading View)

Interest Rates

Typically, central banks default reaction to rising inflation is to increase the interest base rate. This would be of benefit to savers, but adversely impacts those with debt, or seeking more debt (particularly mortgages).

In theory this tames the economy by encouraging more people to save, rather than spend and to certainly avoid taking on more debt. This supposedly breaks the cycle of increasing costs and subsequent increasing wage demands that all feed the inflation spiral.

Predictably, at the time of writing (February ’22), the Bank of England have already implemented two interest rate rises of 0.25% in December ’21 and again in January of this year. More rises are expected before the end of the year. The U.S. federal Reserve are expected to raise interest rates by 0.5% in March.

Meanwhile, Christine Lagarde, who is president of the European Central Bank, appears to be holding firm and is steadfastly refusing to raise the ECB’s interest rate. Why? What’s her rationale?

It is her belief that soaring fuel costs are in fact deflationary. She may have a point; if people are experiencing high fuel costs, they have to find the money to pay these bills from somewhere, so they stop spending on luxuries and avoid taking on more unnecessary debt.

Alas, whether Lagarde’s approach is right, or wrong, there is little that we, as property investors can do to influence the vagaries of the worlds banking system. This is all to provide some context.

Set Your Own Sail

As the late, great Jim Rohn used to preach; it doesn’t matter what is going on around us. It’s how we react to what’s going on that’s important. ‘We must set our sail according to the prevailing winds‘.

Mortgage Interest Rates

Clearly, increases to the base rate will be passed on to borrowers. Those with variable rate mortgages will be hit first and it stands to reason that banks and building societies will tweak their fixed term deals to reflect base rate predictions for the future.

Having said that, interest rates are still incredibly low, by historical standards and given that we are expecting further base rate rises over the coming months, now might well be the time to review your current portfolio, the mortgages that you have and look to re-mortgage on to a new fixed rate deal.

This will at least provide some certainty on one of our major outgoings in the months and years ahead.

Many landlords and property investors these days will be too young to have experienced the astronomical interest rates that were inflicted upon us in the late ’80’s and early ’90’s. At the time, as rates rose, it wasn’t unknown for monthly mortgage payments to more than double, which resulted in a lot of defaults and repossessions.

It is unlikely that we will experience similar interest rate hikes any time soon, but it would be wise not to over-commit. Make sure that any new investments are stress tested using a much higher interest rate to be sure that they are affordable and that they will still generate profit each month.

Energy Costs

This is something that will currently be having a huge impact on HMO landlords in particular. It is well known that HMO tenants are not especially diligent when it comes to heating, preferring to open a window and wear shorts in winter, rather than turn thermostat down.

No amount of nagging and/or threats will resolve this issue. If anything, this approach generates resentment, which is rarely helpful.

We need to find a way to control the heating remotely, or at least create a situation where the ‘default setting’ is for the heating in a HMO to be set to ‘off’, thus involving some input from tenants in order to switch the heating on.

One such device that we have used to great effect in our own HMO’s is TIME:O:STAT. This is a type of thermostat that can be installed that allows the landlord to set a temperature range, which can be adjusted by the tenants, within the specified range.

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This device’s real genius is that tenants can switch the heating on any time they like using a timer that then counts down from 2 or 3 hours. Once it reaches zero, the heating automatically switches off and needs to be ‘boosted’ again. This makes it impossible for the heating to be left on all day whilst tenants are at work or university.

Furthermore, humans are naturally lazy, tenants included; even when they are in, they will leave the heating off rather than venture as far as the hallway to switch the heating on.

Summary

We are living in volatile times, but it is rare that we are not being confronted by one crisis or another. Especially if we pay attention to the news media.

What successful property investors and landlords do is focus on what’s in front of them. They are aware of what is going on around them and they ensure that they understand what impact these things might have on their businesses.

Then they put measures in place to continue to provide great, affordable accommodation for their tenants, but whilst keeping a close eye on their cost lines.

Benjamin Hardy wrote a great book titled Willpower Doesn’t Work (Amazon link). In the book he suggests that we need to make it easy on ourselves to do the ‘right thing’. E.g. If we have unhealthy foods in our homes, don’t be surprised when we eat them. Best not to buy them in the first place!

Devices like TIME:O:STAT serve the same purpose by encouraging our tenants to do the ‘right thing’. They leverage human nature in much the same way that property investors leverage other peoples money to fund their deals.

Just make sure that when you are borrowing that money, you know how much it is going to cost you now and in the future.

All constructive suggestions and any ideas are always welcome. Please feel free to leave a comment.

Disclaimer
The information available through Golden Egg Property Ltd is for your general information and use and is not intended to address your particular requirements. In particular, the information does not constitute any form of advice or recommendation by Golden Egg Property Ltd and is not intended to be relied upon by users in making (or refraining from making) any investment/purchase decisions.

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