Help To Buy. It’s time to get on board

There’s an evil asset class in Britain that hurts the inhabitants even though they are in love with it. Warren Buffett charged gold with not delivering an income and a lack of productivity, but at least gold has the honesty to just sit there, glinting. This asset class causes Britons to lock up stupendous amounts of their lifetime earnings in a lumpen asset. It’s called residential property, and in a curious Stockholm syndrome people want it to always rise is price, even as that hurts the people they supposely love the most – their offspring.

a toxic British asset class
a toxic British asset class

Britons imbue property with a magical aura, it is the one asset class that will always deliver. As such the price of houses in Britain has risen to high levels relative to wages. I derived the associated graph from the Government data on this. I have no idea of whether using the median is reasonable – it is apparently the point at which half the datapoints lie above it and half below. If we take Ipswich as typical of places outside London this is running at five times median earnings, I’ve listed London and England separately but I’d imagine London and the south east skew England up.median houseprices to median wages by region

What does that actually mean for you, the putative homeowner at the start of your house-owning career?

Let’s take a moment to think what this means. Apparently most people go to university now, and you leave university at 21 or 22, and you will retire at 67, so your anticipated working life is 45 years nowadays[ref]when I graduated at 22 the working life of a white-collar worker was 38 years. But in compensation you will live a lot longer than me ;)[/ref]. About ten years in, typically[ref]I know that a lot of today’s young ‘uns seem to expect to buy in your twenties, in the belief that everyone used to do that, but they didn’t. I was nearly thirty, and my Dad was older, when we respectively bought our first houses. Loans were much harder to come by and you were expected to have a deposit and repay the mortgage I really don’t know where that expectation came in, and you’re more likely to switch jobs and move in search of better opportunities in your early career, which mitigates against home ownership.[/ref], you will purchase an asset that costs you five years gross salary. Unless you were born with a silver spoon in your mouth you will buy this on a 25 year mortgage, and if you consider trying to buy this outright in that time[ref]that means no interest-only mortgages, unless you are saving the capital in a different asset class[/ref] you will pay about three times that price, though inflation sees to it that in real terms you will only pay double the price in real terms[ref]this is a hand-waving argument in that inflation halves the value of money every 15-20 years. You will pay about three times the nominal sum but a lot of that will be in money that is worth less, provided your income keeps up with inflation[/ref].

That means that by the time you retire you will have tied up ten years of your income in that house. In the UK you can’t offset the interest you pay against income tax, so you have to pay that from taxable income, so you’ve probably tied up about 12 years of income in keeping a roof over your head.

Yikes. I was mad enough to buy a house on an income multiple of about four times but at least I had a 20% deposit, and bitterly regretted the stupidity of that move. After about twenty years, a house move and some of the other slings and arrows of life it sort of came okay in the end, but it was a nasty ride. My income rose over the period I was working, and I discharged my mortgage in 20 years rather than 25, so I probably lost about five or six years of average income to that. That’s about a fifth of my working life, so the actual proportion lost to housing is not that different, despite the structurally higher income multiple nowadays.

The Government, eager to buy votes, has observed that Brits like nothing better than rising house prices. They’ve been busily devaluing the currency and printing money to help with that, though unfortunately average wages don’s seem to be keeping up. But house prices have generally at least not gone down, because people hate that. Monevator observed that real house prices have increased about 3% p.a in real terms since the 1970s. Now to some extent that is understandable. Britain has become far richer in those 40 years, we spend a far lower proportion of our incomes on some essentials of life, like food and energy, and in many ways British houses are a lot better than they were in the 1970s – they have things like central heating and inside toilets that weren’t universal in the ’70s.  So some of that increase in real price stands to reason, you’re getting more house for your money.

Not all of it makes sense, and the slow creep of prices to wages will eventually mean it won’t be possible to buy a house outright within a single working life, though this is offset by the increase in the length of working life due to increasing life expectancy. I have already experienced the trend – I was older than my Dad was by the time I discharged my mortgage, though I had a better job than he did and he had the cost of raising a family. At the point a working life isn’t enough to buy a house we will either have intergenerational mortgages like the Japanese, or a revolution, or massive inflation. Nobody looks at the big picture when buying a house, what they look at is the price of the loan, and can they afford it at the time they take it out.

Which is where the Government comes in. Our Dave has already been fiddling about in this area, with Help to Buy. Now the most damn fool thing that a first-time buyer can do, in my view, is to by a new house because they get to eat the new to secondhand price hit when they come to sell it – but Help to Buy was designed to do exactly that; help first time buyers to buy new houses.

I’m sick and tired of Britain’s high house price policy. And I even own a house, outright. But I don’t want to sell it, I don’t want to move anywhere, I want it to sit there and do the job I bought it for – to keep the rain off my head and give me somewhere to stick my Stuff.

However, due to Government policy of giving money to people to buy houses, I need to buy a house. Strike that, I need to buy another house. The trouble is I hate everything to do with houses in Britain. I don’t want to buy another house. I probably could raise the cash, but I don’t want to putz about being an amateur landlord and take the risk of rotten tenants or voids and all that malarkey. Everybody in Britain says go for Buy To Let, old man. I know people half my age that ‘own’ two houses[ref]I am unreconstructed enough to believe if you have a mortgage then you don’t own the house. However, you are mad if you own a BTL outright because you could be running more BTLs by using leverage and other people’s money, it’s a business, not a home. I still wouldn’t say I own it[/ref]. I don’t want to piss about with BTL.

I don’t actually consider my house part of my financial assets. But though I have commercial property as an asset class in my ISA, I have no residential property. Eeeeurgh, the very thought brings me out in hives, I loathe residential property as an asset class, particularly the thought of owning such a lumpy, illiquid asset with the whole world of hurt and transaction costs that go with buying and selling it. If you’ve never done it and look wistfully at the thought of buying a house, you take the shaft from the solicitors fees, from the estate agent’s cut of the selling price (which buyer and seller effectively pay between them, though it’s charged to the vendor), the survey fees, from the government stealing a slice via Stamp duty, then if you buy with a mortgage then the mortgage company will charge you an arrangement fee, a mortgage insurance guarantee, a high loan to value fee and anything else they can lob into the pot. Then there’s any rewiring costs, painting and all the futz and hassle. And people say the stock market is risky…

So I don’t want to buy a house. What the hell would I do with it, I’m trying to get Stuff out of my life, not get more. But the Chancellor has just declared that he is going to drop money on you with a helicopter, if you use it to buy a house. How do I get a slice of the action? Well, what’s the aim of this policy? To stop house prices falling make house prices go up in nominal terms. Never mind the poor chumps who don’t have one yet, your boat’s just gone out. Never mind the people that have just had another child and want to move to a bigger house, tough luck on you too. Where’s the Chancellor going to get the money from? Hell, he’ll get Mark Carney to print it. The latter has also declared his aim is to target nominal GDP growth. That means inflation. Your house price will go up but so will the price of gas and food and just about everything else in life. So you will sit there thinking “Great – thanks to that nice Mr Osborne I have more money to buy a house with.” If you have one then you will sit there and think “Great, thanks to that nice Mr Osborne fools will pay me more for my house” without realising you are the greater fool overpaying for your next one. And you’ll mutter to yourself how everything seems to be so expensive these days.

How to get into residential property without buying a house

So I don’t want to buy a house, but I want some exposure to the asset class, and unless I want to become an amateur landlord and do BTL and all that crap that’s not easy to do. Plus I only want some extra exposure to the asset class, not a whole damn house’s worth. There are two ways of doing that

One is spreadbetting, but unfortunately you don’t seem to be able to go to a spreadbetting firm, say here is £1000, stick it on the Halifax house price index and I’ll come back for it in three years time. Well you can, but they will charge you a daily finance charge even if you try and pre-lodge the cash with them, because that’s how they like to make money. Although the day rate looks low, it adds up over time. They don’t pay you any interest on the money you have lodged with them. You use spreadbetting over weeks and months, not years. Why three years? Because that is when there is going to be a sunset clause on help to buy. Now the Ermine has had previous experience of what happens when there is a sunset clause on Government fiddling in the housing market. way back in ’89. When Lawson stopped the ability for couples to pool MIRAS entitlements up to £60,000.

What happens is there is a feeding frenzy that ramps up prices and everybody goes mad with Torschlusspanik to get in there and get a slice of the Government pork. Yes, that was me too – and I was only a single person buying a  house, but I was unlucky and stupid enough to want to buy it in this feeding frenzy and only saw escalating prices. Hell, some colleagues even pointed out there were distorting circumstances. But I Wanted. It. Now. Yes, I did get MIRAS, on 30k of the price, and it was worth about £1000 p.a. and the then-prevailing interest and taxation rates. It probably compensated me for, oh,  about 10% of the amount I overpaid for that house, and I didn’t even have a partner to get the extra MIRAS over 30k 😉

Volatility is lower with houses than with stocks

I actually bought after the cutoff date, which taught me something else about house prices. They respond slowly. A stock price can go from hero to zero in seconds, whereas look at the languorous pace of the house price index – house prices move slowly. This isn’t such a surprise – after all transactions of high-frequency trading in stock prices are measured in terms of microseconds, whereas the whole mortgage arrange/survey/offer/exchange contracts is about six to eight weeks in England. Even as a cash buyer you’re still talking a couple of weeks if you want to do the surveys and searches. We’re talking megaseconds here, so the integration time is 12 orders of magnitude  bigger for houses than for stocks. The index is also integrated over a wide geographical area, further smoothing things. Let’s take a butcher’s hook at how that all panned out for a little over over my house-buying career to see the difference. Fortunately they tracked over that nasty little heft in 1989, so the picture is still accurate over exactly my house owning career 😉

house prices relative to the FTAS since 1985 (both normalised to 100)
house prices relative to the FTAS since 1985 (both normalised to 100)

I normalised both to 100 at the outset[ref]I pinched the house price data from the Nationwide (the Halifax doesn’t have historical data AFAICS), And the FTSE All-share from Yahoo [/ref]. You can immediately see there are whole chunks of volatility, though the FTAS got first out of the starting gate and stayed waaay ahead for 10 years, before taking a gut-punch in the dotcom bust. You’ve have been sore to have taken out an ISA-backed mortgage in 2000, though dividend payments would have made you less sore than this chart shows. And you’d have been buying through that 2003/3 suckout, so perhaps you wouldn’t have suffered too badly. I take Monevator’s point that the dividend income probably matches the rent you’d be paying on the house you wouldn’t have bought if you went the rent and save into an ISA route, so sticking with the capital values is probably okay.

Housing is  an easier ride, n’est’ce pas? Your share man rings in the millennium in 2000 thinking ‘Holy cow, I am Riiiich’ only to crest the peak and suffer a gut-wrenching almost halving of his net-worth. Whereas me, I’m still sore about having crested that tiddly little lump in’89 on the house price index. What’s up with that? Well, the reason is that a house is a leveraged play, because most people buy their house first, before they can afford it. I borrowed 80%, so all of a sudden that suckout is money I didn’t have. It was until 1999 that prices returned to their previous 1989 heights. I still ended up paying down murderous amounts of negative equity before I moved. Yes, I gained on the new house and the nominal value is up, but this is not a hit you want to take in the first five or ten years of house ownership. The younger Ermine paid for a lot of the housing wealth of the older Ermine at a time when it was hard to do, and it’s not like the older Ermine can realise that cash and go on a bender with it even now.

Let’s take inflation[ref]That’s RPI inflation, because we all know that CPI inflation, though it is technically more correct with geometric means is fudged shitless by governments to pretend that they aren’t printing money to pay for all those goodies that voters want but don’t want to pay taxes for[/ref] out to level the playing  field. Here we see in real terms our stock-market playing fellow really did take a 50% crunch high-to-low-water mark. He’s generally had a bumpy ride all round.

inflation-adjusted version, normed to 1985
inflation-adjusted version, normed to 1985

No wonder Brits are in love with property, eh? So much in love we want to stick a quarter of our working lives into bricks and mortar. Life would be a lot more fun if we didn’t do that, and spent it all on holidays, or not working so much and spending time with our children, after all, Warren Buffet was right about gold, it doesn’t actually do anything for you, and nor does most of the cost of your house – a builder can build or rebuild it for a fraction of the purchase price.

25 years of beach holdidays
25 years of beach holidays vs 10,000 bricks? Nah, we’re British, we’ll just take the bricks, thanks all the same…

Brits aren’t any richer nowadays because we stash more of our lifetime incomes in housing, we can stash more of our money in housing because we are richer, so we don’t have to spend it on food. But it’s still a stupid thing to do with our increased wealth, compared to spending it those holidays or extra time with our loved ones.

But that’s what we’re gonna do, because that’s how Brits feel about property. If we had US style home loans without recourse then house prices would be cheaper because mortgage companies wouldn’t lend such stupid amounts as they know they’d often take the shaft with jingle mail. They would come up with some other types of tomfoolery to make a mess of things, like, er, lending money to people who are obviously so poor they can’t pay it back, and then obfuscating the sleight of hand with derivatives…

Now an Ermine has to hold a lot more cash than if I were working or even a pensioner, because I have no means to earn more money in the short-term to make up for a one-off hit. Someone earning would be able to borrow that money and pay it back from earnings, but I am my banker of last resort. And I hear that the Government is doling out free money to underwrite the mortgages of people that shouldn’t be able to get mortgages, because they are overpaying for their houses. So they will overpay for their houses, and house prices will go up, nominally. And my cash holdings are taking the shaft from the piss-poor interest rates on offer and the high rate of inflation that the Bank Of England is setting to discharge the national debt by making it worth less in real terms.

So I want some of that. And I could use the diversification. Look at that chart – there are significant periods when stocks outperform residential property, and significant periods when the converse is true. But I don’t want to buy a house, so I am SOL on that, and three years is too long for spreadbetting. There are three other ways to get exposure to the market that I know of –

Buy To Let. No. Not doing that. Diversification means you need to sometimes buy asset classes you detest. Buying so much of them as to make it the largest holding is something else, however – I don’t have enough money to get the asset allocation right, and even if I did I don’t want the pain. I’m an engineer, and introverted to boot. Why the hell would I want to set up a business and deal with stroppy people?

Hearthstone – a unit trust[ref]It’s actually a Property Authorised Investment Fund  investing in residential property, rather than a unit trust, though it has unit trust wrappers available too[/ref]

Castle Trust – their Housa product

Both have their own problems. Hearthstone seems more honest, in some ways, they buy and rent accommodation to punters on AST tenancies. It’s like being a partial BTL landlord without most of the hurt and the meatspace interaction with stroppy fellow-humans. If Britain is going to move to a lower-owner-occupation model then more professionalism is something I have been looking to see for a long time – the fact that you are dealing with amateur landlords is part of a lot of the hurt that being a tenant in Britain seems to be about. I have a very low opinion of Britain’s army of amateur BTL landlords, mostly from my own early experience of amateur landlords – step forward one of the more egregious examples Mr Uddin from Acton whose bright idea it was to wire the shower to the lighting circuit, ‘cos the shower was on the top floor so it was more convenient. Punk. If you don’t know why that’s a bad idea you shouldn’t be a BTL landlord. End of. This douchebag also stole our deposit in addition to trying to kill us with the melted power system.

Professional landlords will have enough scale and expertise to have or hire their own maintenace and facilities management teams who hopefully will have the expertise to do this properly and to a more even standard. However, Hearthstone buy new and nearly-new houses, and I am prejudiced against new houses because of the secondhand depreciation effect. I have never understood why anybody would buy a new house – the premium is off the scale and the sound insulation sucks, you have tiddly rooms, no storage and eyeball to eyeball with your neghbours. On the other hand car rental firms only use nearly new cars so perhaps there are issues for professionals I have never experienced.

Castle Trust have different issues. Their proposition is easier to understand – match the Halifax House Price Index, and the way they aim to achieve this is very much like Help To Buy, by lending to individuals, So the risk is obvious too – some of those individuals will get slaughtered when they lose their jobs/get divorced/have children/interest rates go up. There is a secondary risk in that Castle Trust is a derivative investment so there is counterparty risk as usual.

Castle Trust have latency issues – you buy effectively a bond benchmarked against the Halifax index for three or five years. The three year one matches Help To Buy very well so I will probably dip a claw into this. I’m not going to put a lot into this, but I want some of Osborne’s money since he is planning to helicopter drop it on the toxic UK housing market to buy himself some votes. If interest rates go up in the three years then although I will eat a loss on this (and consider shorting it using IG Index!) I will actually be able to turn a return on my cash holdings.

BTL will be more lucrative if that’s what you want

BTLers, specifically those doing BTL on an interest-only mortgage, which I presume is nearly all of them, will do much better if house prices go up. That’s because they are using leverage, effectively betting the farm on house price rises. They also get the benefit of charging the interest payments on the loan as a cost of doing business, reducing their tax liability against the rental income. I don’t need leverage – my worst case outcome is that Castle Trust goes titsup and I get to write off my stake. A BTL’ers worst case is he becomes a forced seller selling into a dead market for less than he paid. And goes bankrupt, it’s the old risk/return conundrum. I’ve had the experience of owing more money on residential property than the asset was worth, and I ain’t going  there again.

Government pork and diversification in small chunks

But as a way to stick a paw in this cesspit of quasi-religious British belief, and in particular to hold a claw out for some Government pork, I’m prepared to take the risk to a small extent, and see how it goes. The great thing about these is the subscription requirements of Castle Trust and Hearthstone are modest – like any other asset class you want to drift in and out of it over time. You don’t normally have the chance to buy or sell a house in small chunks marked to market each year. The Government pork has its own attraction, though any market that has the 900lb gorilla of the government charging about it buying votes is susceptible to unintended consequences. There is mixed opinion – in some quarters there’s the view that Castle Trust could be destroyed by Help to Buy and in other quarters that they may work well with it. They certainly seem to be the more exposed to getting hurt by the unintended consequences of Government action, because Castle Trust is very much more a pure play on the house price index. Hearthstone’s model is less susceptible to that, though if rent controls ever started to catch on in Britain they would be in trouble, whereas Castle Trust could just make their mortgage holders eat the cost of capital misallocation along with their investors.

I’m not an expert of UK residential property. But I’m going to take a punt at some point, because I’m tired of the Government’s high house price strategy being bought at my expense. It’s a punt for me, but God help the poor bastards that have to make this call in terms of buying a house. There be dragons in this market, been there, eaten the crow. Wouldn’t it be nicer if we all used our higher wealth relative to the 1970s in having more holidays or working fewer hours rather than foolishly always ramming a quarter of our lifetime earnings into a house? Yes, but the market’s made of other people, most of whom seem to want higher house prices rather than more leisure and fun. Beats me why, but “the market can stay irrational for longer than you can stay solvent”. Poor old John Maynard Keynes, eh. He just didn’t reaise just how powerful the Gollum-esque evil heart of avaricious darkness is that beats in each and every British homeowner. He believed

When the accumulation of wealth is no longer of high social importance, there will be great changes in the code of morals. We shall be able to rid ourselves of many of the pseudo-moral principles which have hag-ridden us for two hundred years, by which we have exalted some of the most distasteful of human qualities into the position of the highest virtues. We shall be able to afford to dare to assess the money-motive at its true value. The love of money as a possession — as distinguished from the love of money as a means to the enjoyments and realities of life — will be recognised for what it is, a somewhat disgusting morbidity, one of those semi-criminal, semi-pathological propensities which one hands over with a shudder to the specialists in mental disease … But beware! The time for all this is not yet. For at least another hundred years we must pretend to ourselves and to everyone that fair is foul and foul is fair; for foul is useful and fair is not. Avarice and usury and precaution must be our gods for a little longer still. For only they can lead us out of the tunnel of economic necessity into daylight.

Hmm, it didn’t pan out that way, bud.

Note that both Castle Trust and Hearthstone are complex, they are new, there’s an awful lot not to like about each of them as well as some things to like. For God’s sake do your own research before you even think about it. They aren’t proxies for a house deposit because of the latency, because of the wide geographical integration and because they’re about more than houses. Here be dragons!