If you live in the UK, inflation is up, and it’s impacting your life - you just might not know it. This article will discuss what inflation is, how prices are changing for goods and services, and a few strategies on how to protect your money from inflation. Inflation is an economic measure that describes the increase of the average price of goods over time, meaning each unit cost more than before. So essentially, today’s Pound won’t go as far tomorrow because its value will be lower than the other costs in the economy.
Inflation is not the same as higher prices. For example, there can be periods when prices do rise, and yet inflation falls. Or, using computers as a specific example, the cost of computers has gone down even while the UK inflation rate was up.
Inflation hedges are investments that provide positive returns above the inflation rate. Residential real estate has historically been a reliable inflation hedge. Note, I am calling out residential real estate and not other forms of real estate as a hedge. The connection to inflation and the hedging effect comes from wage growth during inflationary periods. There is a strong correlation between what people earn and house prices. People will spend a percentage of their income on housing. As wages rise, the amount they can afford to pay goes up, and house price respond. While the mechanics are not precise and affordability varies greatly (London vs Belfast), the broad trend works well enough. People will spend approximately ⅓ of their income on housing.
Higher inflation generally triggers higher interest rates from central banks. If the Bank of England was concerned about controlling inflation and pushed up the interest rate, how quickly would that impact the loans funding your property portfolio? Some people are on a tracker or some other indexed loan. Others are on short term fixed products that flip to SVR when the fixed period ends. Finally, a small minority tend to lock the interest rate for their loans for five, maybe ten years. Long term fixed loans insolate you from a BoE rate rise. How have you reduced the risk of rate rises?
If the cost of living is rising, more or less following the inflation rate, will your tenants be under any stress? Are they going to be able to pay the rent if all the other costs they are paying are ratcheting up?