Friday, November 8, 2013

Home Ownership = Best Hedge against Inflation

The trouble with prices of assets (e.g. a house) as they relate to inflation is that they do not move evenly. Unless you enjoy reading fiction, you can throw out your textbooks on linear, static outcomes because it simply isn’t reality. If all prices immediately adjusted to and reflected supply / demand preferences then the only thing one would notice are rate adjustments made between debtors and creditors. The interest rate quotation on a mortgage is supposed to be that equalizer. Yeah, ok…

Real problems come when monetary influence either allows for an unsustainable expansion, or contraction, due to controls on the supply and velocity of money (M2) outstanding. The criticisms towards housing on a national scale are founded on the claim that mortgage credit become too cheap and easy to obtain. Definitely a legitimate point, but the superlative one, made above, is that prices and inflation do not move evenly! This isn’t a simple modus ponens - if ‘p’ then ‘q’ - outcome those journalists and economists with this broad brush strokes like to portray. There is a fundamental reason, not merely technical, as to why prices move.

Whether one is in the government-driven or market-driven camp, inflation is present so long as money is printed. Whether one believes that inflation goes up because some “smart guy” pushes a button - lowering rates, opening the discount window, and printing cash; or whether it’s the markets that dictate inflation due to constrains in supply or faster movement in demand… inflation will be present. The long-long term implication is that real assets, which include residential property, are a direct reflection of that phenomenon.

Socioeconomic speculation aside, some short-term predictions suggest that the Federal Reserve (eminent controller of inflation) is reaching an impetus, where it may lose all control and we may experience either hyperinflation, supposing the economy were to boom again, or, worse even, dis-inflation (deflation) as monetary contraction will eliminate the supply for a market, thus constraining demand in a worse fashion. This is precisely why I say not to dwell on the monthly sentiments of the academics in charge. Bernanke one month ago said that the deadline for the $85 billion per month QE program would be extended and we saw the 10-year treasury drop back down, even lower than the low of 2.60% where we were before. I don’t know how people propose to time such affairs.

Rather, what I want to leave you with is this meditation: if we go from today’s low interest rate, low inflation environment to a high interest rate, high inflation environment, will you be happier that you bought your home today or will have waited?