Sunday, 13 January 2008

The ghost of housing equity

Over the last few days, newspapers have been full of happy talk about the huge appreciation of house values. Supposedly, over the last ten years home owners accumulated £4.0 trillion worth of equity in their homes.

However, the most idiotic comment came from It claimed that due to rising house prices "UK household balance sheets strengthened again in 2007". So despite that huge increase in personal indebtedness, rising inflation and stagnant incomes, UK household became wealthier last year. And not just a little more wealthier; household net wealth went up a tasty 9 percent.

Lets start with an obvious point; for the vast majority of households, there is just one asset in their balance sheet - their home. Portfolios with just one asset are not exactly diversified. This makes their portfolios vulnerable to sudden changes in price of this one asset. This is not what an accountant would call a position of financial strength.

But what of the household income statement? Households invariably one source of income - their job. Apart from the BTL brigade (and we will come to them in a moment), people are living in their sole asset. Therefore, it is not earning an income stream. On the liabilities side, however, there is debt. This needs to be paid off. Despite their huge price appreciation, from an income perspective, homes are simply an expense. In balance sheet terms, homes are non-performing assets. Houses certainly provide a flow of services, but unless they are sold, houses don't pay off debts. Only jobs do that.

The BTL brigade understand this point better than most. These jokers are out there trying to make a return on their houses via rents. However, all too often, these rents do not cover the mortgage costs. On a cash flow basis, many BTL investments offer extremely low and sometimes negative returns.

This pernicious idea that rising home values generates real wealth has encouraged people to take out more debt, to over consume and under save. It has also encouraged many speculate in the BTL scam. It has served to underpin the housing bubble and offered false hope that debt accumulation has no long term financial consequences.

This year, it is coming to an end. House prices will fall, and as they do, that phantom home equity will disappear. However, those debts taken out on the housing upswing are real. They need to be paid off. Then households will understand the true wealth generating capacity of housing equity.


Anonymous said...

UKHB: ¨In balance sheet terms, homes are non-performing assets.¨

Other than the utility one has from living in a house. Looked at from that perspective a house performs at 100%.

UKHB:"This pernicious idea that rising home values generates real wealth has encouraged people to take out more debt, to over consume and under save¨

Wrong, the financial climate set by the government has encouraged people to under save and over consume. Who but an idiot would put their money in the bank where the principle will be errorded by 2% a year (if you believe the government figures for inflation - if you don´t, as I don´t, then more like 10% per year), all the while your interest income is attacked by the government at whatever your tax rate happens to be. Net net, you are loseing money if it is in the bank.

Sensible people, look for higher returns than they can get from an interest bearing account.

That is the common sense of the punter coupled with the economic climate set by the government.

Anonymous said...

It will all end in tears. Hopefully for the BTL Brigade.

Towjam said...

If it follows the same pattern as it did here (Florida). The good news will continue for 12 to 18 months after the peek. Anyone predicting a crash will be seen as a chicken little. Bad news will slowly start to filter in. The 1st crack will be the rising inventory of unsold homes. Then will come news about people un able to sell and just walking away, vacant houses pulling down the value in areas, people who bought when they shouldn’t have will begin to ask why?. So on and so on.

Don’t know how it works there but again using the problems here as template. The government will step in to help people stay in their homes and try to stabilize housing prices and if like here it will to little to late.

Your BTL people will begin walking away in droves. Forecloses and short sales (if you can even do that there) will begin to pile on to the already record inventory levels driving prices down further and forcing more foreclosures and short sale on the next wave of people who bought just after the boom. Driving prices down even further.

After that?.. Well don’t know yet. But to me it looks like it will be bad for a long time and it will take years to recover. And the media, blogers & bitter renters will get blamed for bring the whole thing down with all the negative comments on the market.

Good luck

ukhousingbubble said...

Towjam, that can't be your real name.

Anyway, thank you for an extremely useful comment. The scenario you outline looks very plausible to me.


ukhousingbubble said...


I fully accept your point that low interest rates have discouraged savings and encouraged consumption.

The problem with housing returns is that they are so difficult to realize. Invariably, people sell their houses only to buy a higher pricedo one, and in the process take on more debt.

The only people I know who gain from housing are those who have lost their homeowning parents or relations.

Personally, I would rather keep my dear old mum than gain her housing equity.


Graham said...

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