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P/e Rates Adjusted

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In another post it was discussed about the best way to measure affordability and therefore houses fair value.

I think P/E is a good indication but we also should consider the interest rates and therefor how much of the annual salary goes to the mortgage.

Nationwide P/E shows:

s42dU.png

Using this information together with BoE rates and the following assumptions:

Mortgage rate = BoE + 2%

LTV = 80%

Years= 25

The results are interesting:

nationwide.jpg

Considering this I think we won't see important prices drop without an increase of rates.

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Good idea but I would say you need to look at actual mortgage rates rather than the BOE rate as the two are not directly linked

Perhaps look at 5 year fixed rates.

In 2007 you could get a 5 year fixed for 4.99%

Now you can get a 5 year fixed for 3.39%

So at peak prices were £200k and you could get a 5% mortgage

Now prices are close to £160k and you can get a 3.39% mortgage

So your monthly payment on a repayment mortgage of 75% LTV

2007 : £887 PCM

2012 : £600 PCM

That is a 32% crash in payments

Of course what irks most HPC posters is that those who baught historically also "benifit" from lower mortgage rates

And what they fear is that interest rates will go up again.

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Considering this I think we won't see important prices drop without an increase of rates.

There is a disconnect with reality somewhere. Where I live, even people on above-average incomes are still completely priced out of the decent areas. It is simply not true that houses are now affordable in the SE (in just about any sane sense).

Housing does not cost 20% of average earnings. Oh, you mean it's 20% of the income of someone who has a >25% deposit (can you get BOE+2% with less?), earns enough to buy a house, does it with ZIRP in effect, and then conforms to stricter lending criteria that stops people who would want to spend a larger proportion of their income on repayments from getting a loan?

You could easily get the graph down to 1% of income by simply not giving a mortgage to anyone who earned less. I guess you would conclude a price boom would follow?

Edited by MongerOfDoom

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Good idea but I would say you need to look at actual mortgage rates rather than the BOE rate as the two are not directly linked

I am agreed with this, but I could not find such information.

This assumes that BoE base rate will remain linked to mortgage rates. When the current contract / deals run out I don't see people being given 0.5% mortgages or even getting good rates if their LTV ratio has fallen.

Plus pay rises are 2% and inflation is 5% so discretionary spend or spare money is being reduced, in fact many things are increasing at way above inflation rates; rail fares (tomorrow), energy, food, petrol - ie the stuff we NEED to buy. This also assume people will still have jobs.

True but the information from Nationwide is for FTB so it is valid as the payments a FTB has to do at the beginning. The inflation comment it is true but maybe the disposable income (after basic needs) is even higher now than what it was in the past with higher inflation rates.

There is a disconnect with reality somewhere. Where I live, even people on above-average incomes are still completely priced out of the decent areas. It is simply not true that houses are now affordable in the SE (in just about any sane sense).

Housing does not cost 20% of average earnings. Oh, you mean it's 20% of the income of someone who has a >25% deposit (can you get BOE+2% with less?), earns enough to buy a house, does it with ZIRP in effect, and then conforms to stricter lending criteria that stops people who would want to spend a larger proportion of their income on repayments from getting a loan?

You could easily get the graph down to 1% of income by simply not giving a mortgage to anyone who earned less. I guess you would conclude a price boom would follow?

The original chart shows the UK data. Below I have added London and I have increased the rate to 3+ BoE so this has a higher impact where rates are low than when they are high.

nationwideukandlondon.jpg

The Price to Earnings is coming from http://www.nationwide.co.uk/hpi/historical.htm

As you can see there currently London has a Price to Earnings of 6.39. Let’s assume a household where both earn about 25k. This would give an average house price of 320k ( I think it is quite fair estimation). A FTB with a mortgage of 3.5%, 80% LTV would pay £1.278 per month so £15.347 per year. This is 31% of their annual salary and that is what the chart shows.

I always believed prices should go down but I am starting to think this won't happen without rates increases. Taken this risk is what is stopping me to buy at this moment but not affordability. On the other hand we could stay with low rates for decades….

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your time series is too short

p/e ratios were maintained in the 60s when rates were also low

so your thesis is selective and incorrect

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your time series is too short

p/e ratios were maintained in the 60s when rates were also low

so your thesis is selective and incorrect

Do you have this data so I can update the chart? Anyway the chart already shows 30 years, not sure the 60s will represent how the world is now. Even if that happens again we may have to wait decades to see it.

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Affordability analysis has its place, but fundamentally the earnings in question in a P/E ratio should be those the asset can generate (i.e. rent). No other asset class is valued on the earnings potential of the buyer.

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Do you have this data so I can update the chart? Anyway the chart already shows 30 years, not sure the 60s will represent how the world is now. Even if that happens again we may have to wait decades to see it.

on your last point yes, it could take a long time

nope I don't have the data, can't you get it off the BoE or treasury websites?

interest rates are tautologically connected with inflation - this is textbook stuff I am afraid - REAL interest rates are where it counts (IR minus inflation)

in plainer English - with low IRs you also get low wage increases so overall affordability is unchanged, but a greater proportion of the paying off is done later in the life of the loan, so yep, you would expect longer slower declines, but the overall affordability remains the same, so youo also might expect the cost burden to be passed even a generation further down as the home owning parents are unable to spare any help for their forthcoming kiddies' house buying in future...etc...

Japan and the UK (off the top v quick examples) saw big house price declines against low interest rates quite recently (early 90s) so there is certainly a precedent for nominal falls too

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Affordability analysis has its place, but fundamentally the earnings in question in a P/E ratio should be those the asset can generate (i.e. rent). No other asset class is valued on the earnings potential of the buyer.

I think you misunderstood he is looking at the cost to buy with a mortgage vs wages

So in my previous example it now costs you £600pcm over 25 years to buy and pay off the average house at todays mortgage rate

It used to cost you ~890PCM over 25 years to buy and pay off the average house at the mortgage rates and prices of 2007

So that is a 32% crash in cash terms what you pay to buy and pay off a house since 2007

(of course someone who baught in 2007 will benifit from lower rates now so it isnt a TRUE 32% crash but it is a crash of that much relative to what someone buying expected to pay over 25yrs vs someone expecting to pay today)

So it is quite fair to say prices are down in "nominal" terms about 32% relative to what you expect to pay vs what you expected to pay then.

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I think you misunderstood he is looking at the cost to buy with a mortgage vs wages

So in my previous example it now costs you £600pcm over 25 years to buy and pay off the average house at todays mortgage rate

It used to cost you ~890PCM over 25 years to buy and pay off the average house at the mortgage rates and prices of 2007

So that is a 32% crash in cash terms what you pay to buy and pay off a house since 2007

(of course someone who baught in 2007 will benifit from lower rates now so it isnt a TRUE 32% crash but it is a crash of that much relative to what someone buying expected to pay over 25yrs vs someone expecting to pay today)

So it is quite fair to say prices are down in "nominal" terms about 32% relative to what you expect to pay vs what you expected to pay then.

Yes, I understand all that and it is a good point (and one most politicians lean to). I suppose ultimately earnings (wages) are always the limiting factor be it rents or capitalisation values. Is there some law though that tends prices of shelter to 1/3 of take home pay (on average)? How about we become so advanced an economy that shelter costs only 1% of wages? My point is that the intrinsic value of the shelter should not be affected by the income of the buyers.

On the other hand you can argue that the shelter provides the owner with the potential to earn, shelter has to be bought by everyone and so there is a feedback into capitalisation values. Prices will always be bid-up to a point where it starts to be painful - around 1/3 of take home pay seems to be where we end up.

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1) rates are going up. It's called price inflation. Conventional economists think that interest rates relate to the price of money. In reality, the real price of owning fiat money is the discount explicitly determined by rates plus the discount from reduction in purchasing power. Ok if you never have liabilities but price inflation acts as a proxy for rate increases to the populace anyway. The immoral part is that the indebted are not punished as harshly as the debt free.

Regardless of this, those servicing high mortgages will see less cash available to service their debt hence the pain will still come.

2) don't focus on affordability. For the sub prime, liar loan backed mortgages then affordability is irrelavant. They need price increases to bail themselves out as they are already over leveraged and only a roll over of debt via selling at profit can bail them out. Flat prices are a ticking time bomb, watch how many people are paying for groceries and fuel on credit cards. There's your indicator.

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your time series is too short

p/e ratios were maintained in the 60s when rates were also low

so your thesis is selective and incorrect

How about some data to support your assertions?

Your timescale takes you back to an era when your income tax was 33% before your pay hit £1k/year, and went up over 80% at something in the £20k ballpark, so the E part of P/E was much lower than it looks. And when policy was very different, with a much higher proportion of people being housed by their employer, and fortunate families getting a flat or house of their own from the council.

(anyone have the historic NI data?)

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The real estate vested interests want us to believe that the hammering of income of the 99%, and the mass job losses will not have an impact on what people are able to pay for houses.

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1) rates are going up. It's called price inflation. Conventional economists think that interest rates relate to the price of money. In reality, the real price of owning fiat money is the discount explicitly determined by rates plus the discount from reduction in purchasing power. Ok if you never have liabilities but price inflation acts as a proxy for rate increases to the populace anyway. The immoral part is that the indebted are not punished as harshly as the debt free.

There is no sign the rates are going up anytime soon. Actually 10 years bond yield is going down. We have seen 5% inflation rates without rate increases so we do not know where the trigger is. Maybe the BoE is happy to keep interest rates at current levels with inflation rates up to 7%... Also inflation rates seems to be moderating now.

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Good idea but I would say you need to look at actual mortgage rates rather than the BOE rate as the two are not directly linked

Perhaps look at 5 year fixed rates.

In 2007 you could get a 5 year fixed for 4.99%

Now you can get a 5 year fixed for 3.39%

So at peak prices were £200k and you could get a 5% mortgage

Now prices are close to £160k and you can get a 3.39% mortgage

So your monthly payment on a repayment mortgage of 75% LTV

2007 : £887 PCM

2012 : £600 PCM

That is a 32% crash in payments

Of course what irks most HPC posters is that those who baught historically also "benifit" from lower mortgage rates

And what they fear is that interest rates will go up again.

In my view, this is only part of the whole picture of the state of household finances.

The more complete question is what has happened to the risk adjusted, after tax household income after fixed costs.

I think that households are applying a higher risk factor to the certainty of their gross incomes and are also facing a large rise in fixed and semi fixed costs.

I think that households feel worse off in 2012 than they did in 2007 even with lower rates so they are delaying their buying decisions.

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How about some data to support your assertions?

Your timescale takes you back to an era when your income tax was 33% before your pay hit £1k/year, and went up over 80% at something in the £20k ballpark, so the E part of P/E was much lower than it looks. And when policy was very different, with a much higher proportion of people being housed by their employer, and fortunate families getting a flat or house of their own from the council.

(anyone have the historic NI data?)

good point

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In my view, this is only part of the whole picture of the state of household finances.

The more complete question is what has happened to the risk adjusted, after tax household income after fixed costs.

I think that households are applying a higher risk factor to the certainty of their gross incomes and are also facing a large rise in fixed and semi fixed costs.

I think that households feel worse off in 2012 than they did in 2007 even with lower rates so they are delaying their buying decisions.

if that is the case that means that there is higher demand even at current prices if the sentiment improves :(

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  • 284 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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