An Economic Saving Grace

by | Sep 3, 2002 | Archives

The global economy is at a crossroads and one big question is what will happen next-inflation or deflation? The answer is that whatever we choose can have a profound effect on how we invest, but regardless of which happens one investment that still belongs in our portfolios is real estate. Here is why.

Housing prices have risen as interest rates in the U.S. have dropped. An article on page eleven of the April 5 Economist Magazine is an article entitled “The houses that saved the world”. This article points out that falling interest rates and U.S. home equity mortgages have helped prop up consumer spending and keep the recession mild. As housing prices have risen, homeowners have taken out their gains via home-equity borrowing. Mortgage borrowing has been in excess of new housing and has been running at record levels as homeowners take advantage of lower interest rates/higher value homes. The article points out that house prices cannot continue to rise as they have and a sudden reversal could harm the U.S. economy, but then goes on to show that a sudden rise in interest rates could cause housing prices to drop. This could push the economy into a downward spiral leading to deflation or inflation if the government tries to spend the nation out of its doldrums-although the Japanese government has failed in their attempt to do this!

So the question is will we see inflation or deflation? Or stability?

With either answer real estate is still a must. In times of inflation and a run away economy, leveraged real estate is one of the best investments a person can hold. In a deflation one can't trust money. Banks, stocks, bonds are all at risk, but even when an economy grinds to a halt, people still have to eat and have a place to live. Debt free, single-family homes and apartments are great safe income producers. The only question is whether to leverage on the real estate or not.

So despite the risks, real estate makes good sense. Yet there are considerable risks. The April 5, 2002 issue of the Economist magazine also included a special edition about real estate prices worldwide. This article includes a global house price index that shows how much real estate has risen in major countries since 1980.

This index shows that U.S. house prices have risen 15% or 20% after deducting inflation in this period. Yet this is only the 6th highest rise of the 13 countries in the index. Spanish prices for example have risen much higher 726% nominal increase (124% real after inflation) in this period. Here is the index:

Country % Change Since 1980 % Change Since 1980

Nominal After inflation

Spain 726% 124%

Ireland 451% 95%

Britain 389% 89%

Netherlands 181% 66%

Belgium 140% 23%

US 158% 20%

France 155% 15%

Japan 52% 15%

Canada 152% 13%

Italy 343% 13%

Australia 213% 10%

Sweden 183% 6%

Germany 33% -21%

Global 148% 19%

But another graph in that article shows how these rises have come through a boom-bust cycle. You can see this graph from the Economist and see how house prices, other than in Japan and Germany, have risen dramatically since about 1992. This means that if trends repeat we could be in for a real estate price set back.

So it is important if you invest in real estate that you find an area ahead of the crowd where prices are not so high, but will be.

This why I remain enthused about the idea of Smalltown USA. If times turn tough, rent controls are less likely to be imposed in small towns than in big cities. Plus people are more likely to move out of the city to live in small towns to escape the difficult times (especially if we have a terrorist attack on a major city). We can see this in a recent article in the Atlanta Journal-Constitution. Entitled “North Georgia sizzling for weekend homes, even commuters”. The essence of the article is that the real estate market in the mountains north of Atlanta is incredibly strong. Developers are building on any acreage available and people are buying everything from modest cabins to homes in gated communities. The average price is $145,0000.

This article points out that buyers are looking for less stress and a more natural lifestyle. Some are moving out of the city because of terror concerns and many more buyers are telecommuting.

But let's remember that we also want to buy at the right price. This is one reason I have invited Ted Thomas who is a master at buying tax liens and tax deeds to speak at our upcoming November 15-17 International Business Made EZ seminar. You can learn more about Ted's services.

We have also added a one day international investing seminar on November 18. The fee is $149 but free for all attendees of the International Business Made EZ course.

Until next message, may wherever you are be great!