William Stevens, head of financial planning at Killik & Co
The housing market is showing signs of cooling as high inflation and rising interest rates limit buyers’ spending power. Here are the factors to consider when investing in property during this period of uncertainty.
Planning is essential
It’s crucial to understand and plan for the risks posed by a high inflation environment. Property buyers should be aware of two key factors here – affordability and interest rates.
Rising inflation means that goods and services are likely to cost more in the months and years ahead. When deciding whether to buy a property, the affordability of mortgage payments over time should be a buyer’s main concern; when inflation is high, it is more important than ever to ensure they have surplus income to cover higher living costs, including food, travel and energy.
During periods of high inflation, and as we have seen in recent months, central banks have historically looked to raise interest rates as a mechanism to bring price rises under control. This is likely to lead to higher mortgage costs over time, which will be especially noticeable after a period of very low rates. It could mean that mortgage payments rise in the future, even as the overall size of the loan goes down.
However, buyers who have properly factored affordability and rates into their plan have no reason to let the inflationary environment impact their decision to invest in property. Given the timespan involved in mortgages and homebuying, most people are likely to move through several cycles of inflation during their lifetime.
Choosing the right mortgage
Buyers with a good idea of how long they plan to stay in a property may benefit from locking in a longer-term repayment mortgage deal now. Agreeing a fix with the expectation of further rate rises could allow them to sit out future increases and potentially benefit from lower rates in the future.
This also provides medium-term certainty of fixed monthly payments, but buyers should be aware of exit penalties if they decide to move before the end of the agreement. It’s also important to shop around for the right deal when the term comes to an end.
Any buyer looking for an interest-only mortgage should remember that payments will escalate as rates rise. As a result, the current environment may lend itself more towards a repayment mortgage structure, where, because repayments chip away at the capital, monthly costs are more likely to go down or stay relatively flat.
Should I be worried about a crash?
House prices, as with those of all assets, are decided by supply and demand. Both of those economic factors are affected by the current increase inflation and interest rates. Despite ongoing growth, the housing market is showing signs of cooling, and it’s possible there will be stagnation or a drop in prices ahead.
On the demand side, this is caused by the rising cost-of-living and higher mortgage leading to a smaller number of buyers being able to enter the market for affordability reasons.
The same factors affect supply in a slightly different way. An affordability struggle could lead to higher-than-normal number of homeowners struggling to make their payments. As a result, more foreclosed properties could be put up for sale by lenders, increasing supply and putting downward pressure on the market.
However, it is worth remembering the multitude of factors that impact property prices. A major one is the production side, which remains under the control of housebuilders.
Helping my child with a deposit
Helping a child, or children, with a mortgage deposit should always be considered as part of an overall financial plan and estate planning strategy. Given the level of uncertainty about the impact of rising interest rates and living costs, it may be a good opportunity to review this plan.
As always, it depends on the financial circumstances of all the individuals involved, and as mentioned, planning is essential for both parents and children in this situation. Particular focus should be put on the affordability of a mortgage over time, and the ability for all parties to meet rising living costs – whether they are studying, working or in retirement.
Finally, it will depend on where the capital is coming from. Divesting an equity portfolio during the current deflated market conditions could crystalise losses at lower levels, where leaving the money invested could lead to a recovery. However, utilising surplus cash, which otherwise may have its purchasing power eroded by the current high levels of inflation could be a beneficial move, should property prices remain .