The end is nigh – for soaring house prices

You’d think it was the end of the world.

The outcry about rising interest rates was quite spectacular – at least, if you read the tidal wave of emailed press releases that engulfed the MoneyWeek offices following yesterday’s entirely predictable rate hike.

The Bank of England as good as said last month that interest rates would rise to 5.75% this month, but June’s 5-4 hold vote seemed to have given a few pundits the false hope that Governor Mervyn King would be outvoted again.

No chance…

Let’s just take a quick look at some of the economically sound, not even remotely self-interested statements that various lobby groups put out after the news that the base rate had gone up to 5.75%.

The National Association of Estate Agents was “disappointed that this action has taken place, as it believes the property market was already showing signs of levelling out.”

David Bexon, managing director of property website SmartNewHomes.com was less laid back. In fact, he reminded me of those “angry from Manchester” letters that they used to read out on that BBC reader-response program, “Points of View”.

Mr Bexon was “appalled by today’s decision to further increase interest rates. Has the Governor forgotten that the ordinary home-owning public is already stretched to capacity and will struggle to pay these escalating home loan payments?” He went on: “This latest rise could seriously damage the market as buyer confidence falls to an all-time low.”

The strangest objection came from Robert Bryant-Pearson, head of Allied Surveyors, who fretted that: “this upward spiral of rate rises must stop or 2007 will see more rate rises than has been experienced in any other year over the last decade.”

We’re confused – it’s not the scale, but the number of rate hikes that has Mr Bryant-Pearson worried. So would two half-point hikes have been better than four quarter-pointers?

Anyway, We’d just like to point out to Mr Bexon, Mr Bryant-Pearson, and all the other property pundits – it’s not just about you. There is more to an economy than house prices. If house prices were all that mattered, then we could just cut interest rates to zero and leave them there. In fact, we could give money away – which is pretty much what we‘ve been doing for the past six years or so. But that’s how you end up with an inflation problem – and if you want to know why that matters, read yesterday’s Money Morning, where my colleague Jody Clarke looked at why Ireland’s housing market is collapsing: Can you bag a property bargain in Ireland?

The sad thing is that the Bank’s sudden determination to get a grip on inflation and interest rates comes too late for a lot of recent homebuyers. The Council of Mortgage Lenders reckons that more than two million borrowers will come off a fixed-rate mortgage over the next 18 months. “The majority of these borrowers will face increases of between 0.75% and 1.5% on their home loan rates once they come off their fixed rates,” it says. That’s a big leap in monthly payments – and some of them won’t be able to cope, which will also mean a jump in repossessions.

But as James Harding points out in The Times, echoing what we’ve been saying for quite some time at MoneyWeek: “The Bank of England’s job is to be effective, not popular.”

And it may well become a lot more unpopular. I was talking to James Ferguson about the rate rise yesterday. As regular readers will know, James is a stockbroker and an economist, but he has a great ability to boil down complicated economic concepts into plain English – no mean feat for a City professional.

In any case, he pointed out that even at 5.75%, real interest rates (that is, rates adjusted for inflation) are very low. If you take the older RPI measure of inflation (the one the unions still – quite rightly – quote when looking for pay rises), which is sitting at 4.3%, and subtract it from the base rate of 5.75%, you get 1.45%. But as James points out, real rates have historically been closer to 3%.

To get to that level with current rates of inflation, we’d be looking at a base rate of above 7%. That’s ‘almost unthinkable’ to most people at the moment, says James. But then again, less than 12 months ago, the idea that the base rate would hit 6% or more by the end of 2007 was beyond the realms of possibility, as far as most analysts were concerned.

In fact, towards the end of last year, I was contacted by a reader who was wondering whether to go for a fixed-rate or, as her adviser had suggested, a tracker. The base rate was sitting at 4.75% at this point, and her adviser – pushing her to go for the tracker – had said there’d definitely be no more than one further rate rise.

Now we’re not allowed to give specific financial advice to individuals for regulatory reasons, so I couldn’t tell her which I thought she should go for. But – with interest rates having risen almost a full percentage point further than her trained professional adviser had assured her they would go – I really hope she opted for the fix.

Turning to wider markets…


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Miners had a good day in London yesterday, but overall the City’s leading stocks ended the day lower as fears of further interest rate hikes weighed. The FTSE 100 index lost 37 points to end the day at 6,635, whilst the broader indices were mixed. Vodafone was one of the day’s heaviest fallers following reports that it had lost out to O2 over the sale of the new Apple iPhone. For a full market report, see: London market close

In Europe, the Paris CAC-40 added 38 points to end the day at 6,059, whilst the Frankfurt DAX-30 tumbled 114 points to close at 7,987.

On Wall Street, stocks closed mixed as 10yr Treasury yields rose and energy prices fell. The hotel sector was the day’s stand-out performer with Hilton jumping by 26% following a takeover bid by private equity firm Blackstone Group. Peers Marriott and Starwood Hotels and Resorts Worldwide were also higher. The Dow Jones was 11 points lower, at 13,565. The tech-heavy Nasdaq was also down 11 points, at 2,656, despite a new all-time high for component Apple. And the S&P 500 was a fraction of a point lower, at 1,525.

In Asia, the Nikkei slid 80 points to close at 18,140 today.

Crude oil had fallen to $71.58 this morning, whilst Brent spot was at $75.29.

Spot gold was steady at $649.80 and silver had climbed to $12.50.

In the currency markets, the pound was at 2.0102 against the dollar and 1.4787 against the euro this morning. And the dollar was at 0.7355 against the euro and 123.11 against the Japanese yen.

And in London this morning, budget carrier Easyjet announced a 15% increase in passenge numbers in June, having cut prices as demand softened. However, the proportion of seats filled had fallen by 1.2%. Easyjet shares fell by as much as 2.8% in early trading.

And our two recommended articles for today…

Where did all the fear go?
– Years of cheap money means investors’ risk tolerance across all asset classes has been seriously distorted. But the charts suggest that another market ‘event’ to rival the 1987 crash or LTCM crisis is currently unfolding. For more from Niels Jensen on why we’re about to be dragged out of our comfort zone, click here:


Where did all the fear go?

South African miners dig deeper – but will gold still go up?

– Now that the easy-to-reach gold has been mined, South African miners are being forced to dig as deep as 4km down. Thanks to new technology, they should be able to keep the gold coming, but at what price? For more on South African mining stocks and why you should stay bullish on gold, read: South African miners dig deeper – but will gold still go up?

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