16 Jun 2015

The Casino Economy

This morning I received an email from Eva Morrison who is a Business Development Manager at Axis Corporate Finance, located in Canary Wharf in London. At Axis, she writes, we assist our clients to find a high yield property, find them suitable finance to complete the purchase and find them professional and corporate tenants to rent the property through professional estate agents who manage the property.

She goes on to state that they have properties for sale from as little as £200k and up to £2m. The yields are 5-8%, the LTV on the mortgage is 75-80% at an interest rate of 3%. Tenants are already waiting.

So let's work out how I could benefit financially from such a deal. I'd need some cash to invest, but in fact it's surprisingly little, only around 20% of the amount the property value. Say I had got £50k to invest from somewhere - I might even have been able to borrow this, but that's another story. I could use this to purchase a £250k property (£50k÷20x100), charge a rent of £16k a year (£250k x 6.5%) and pay interest of £6k (£200k borrowed x 3%). I've no doubt there will be a few charges along the way such as stamp duty, legals fees and management fees, but the bald facts of the deal suggest that, for my £50k investment, I can get a return of £10k per annum, a 20% yield. With a return like that, any uplift in property value is a bonus.

I'm sure it's the way that Buy-To-Let experts tell it and there is no doubt that fortunes have been made doing this. But is it too good to be true? What are the downsides?

The major one is that a borrowing boom like this serves mainly to fuel house price rises. So that whilst I may be happy to pay £250k for a small flat, it's only worth that because the price is being driven higher and higher by other investors trying to latch onto deals like this. Without this great surge of investors, the price would probably be far, far less. The flat itself probably only costs around £80k to build: the rest of the value is quite simply land speculation driven by the market.

Were interest rates to rise (and they have been rock bottom for five years now) or rents to fall, or indeed both happen at the same time, then the squeeze would be on big time.

This sort of property boom-bust is pretty endemic in the UK economy. We have been through three major busts in my life (1974, 1988, 2007) and after each one a period of self-imposed property austerity seems to ensue. But it doesn't last. The animal spirits, or just plain greed, eventually get the upper hand and the up-cycle kicks off again, always fuelled by excessive borrowing. This time it's being fuelled by interest rates which are the lowest ever recorded, making the deals more tempting than normal. Which in itself can only drive prices higher and higher. It's a classic bubble, but it could go on for another ten years — no one knows when it will burst. When the LTVs get above 90%, it's a surefire sign that it's getting too hot. That's when hot money starts chasing gullible borrowers. It's not quite there yet but I don't think it will be far off now.

But there is another social cost which is much less discussed. The people with the £50k to invest are, by and large, the old and the rich. The flats are, by and large, for the young and the poor. Traditionally in the UK, the property ladder has helped the young and poor establish themselves and put roots down into the community. This was one of the cornerstones of Thatcherism.

Although Thatcher oversaw the first wave of council house sales (partly to turn Labour-voting council house renters into Tory-voting ex-council house owners), the Buy-To-Let boom didn't kick off until the Blair years and it's effect has been to reverse the growth of home ownership (down from 70% at its peak in the late 80s to 62% today). Our politicians keep telling us that there is a housing shortage which is stopping the young being able to buy a home of their own. In reality, most of the new homes in the UK today designed to cater for the young are being advertised as investment opportunities sold to older investors who can invariably outbid the young. It's not really a very healthy state of affairs.

Which is a long way of saying to Eva that I won't be taking up her offer to help me find a high-yielding property. I'm sure they are out there and I'm sure that some people will make money out of these deals. But at my age, I don't really need the aggro or the exposure to the risk. And I'd rather my children were able to buy property at sensible prices rather than me buying property at ridiculous prices only to charge them rent in order to live in it. That, to my mind, is bonkers.


  1. Totally agree Mark, and yes it is THAT Peter Harris!. I've never fancied being a Rachman either. Not good for the soul. I'm currently planning a 'Sell to Rent' initiative. Not sure it will catch on. Incidentally I've just started a blog at homesthoughts.blogspot.com. Be good to pick up any advice on this blogging malarkey.

  2. I friggin' love you Mark. I'm one of those people who's been priced out of the market for the above reason. I've been arguing the above for years and get frustrated that so much focus is placed on the need to build more houses. Not only do I think that's (largely) wrong-headed but also think it's disempowering; building our way out of the problem would take years (even if it were possible), but changing the rules on lending/speculation could be enforced overnight.

  3. The real problem that I see with buy to lets where you don't have some form of "safety cushion" (eg. property bought at rock bottom prices, value of the property increased through renovations/redevelopment, etc) is that if the London property market is a bubble (which probably is, albeit a gigantic and hard to burst one), you might find that if and when it bursts your property isn't worth much and the rent you can charge is less than half of what you expected to get - plus with prices at rock bottom many tenants will decide to buy instead of rent.