25th July, 2010.

INTEREST RATES AT 0.5% - THE
 
EFFECTS FOR PROPERTY

By Peter Wood, Director, Investment.

Interest rates in the UK are the responsibility of the Monetary Policy Committee of the Bank of England.

Interest rates are set and adjusted by the Bank as one of the means of managing the UK economy and trying to ensure the County’s best financial interests are served by setting of Bank base rate.

The Bank of England Base Rate was at a ‘historic high’ of 5.5% as far back as February 2008.  I say historic on the basis this was 2½ years ago. Base rates then plummeted, given the timescales involved, to 0.5% at the beginning of March 2009. 

The July meeting of the Bank of England again voted to keep the base rate at 0.5%, this for the 16th month in a row. With inflation (CPI and RPIX) consistently operating within a band of 1% up to 5.5% for the last two years and with RPIX inflation (excluding mortgage interest payments) still at 5% in June 2010, there is a real erosion of value for those with savings and cash based assets.

The implications for the commercial property market of low interest rates would ordinarily, meaning in a pre credit crunch environment, have led to a riot of borrowing and spending.  In fact the riot of borrowing and spending is exactly what led to the credit crunch as borrowing costs were too low and credit availability abundant before the markets crashed in 2008. 

The difference for the property markets since the Bank base rate has been at 0.5% is that bank lending criteria have quite rightly been tightened on loan to value bases and on general lending terms being offered.  Banks have had to shore up their balance sheets and only ‘very sensible prudent lending’ has been the result.  ‘That is only right’ is the cry.  The problem is that Bank lending sometimes needs to be more creative and delivered in a pragmatic fashion appropriate to the projects being put to them.  It is also the case that in some cases Banks have simply stopped lending, as previously active lenders have disappeared from the active lending market.

The practical effect of what would have historically happened with Bank rates at 0.5% is very different to what is happening now with this low base rate due, to the host of other factors at play – restricted lending criteria, a reduced pool of lenders, market volatility in yields and product availability plus investor appetite for risk against the backdrop of what has happened over the last two plus years.

It is not enough to consider only base rates and at what level they are, in making proper lending or borrowing decisions.  In many ways Bank base rate has become less relevant during the credit crunch and more important factors have become credit availability (how much), lending criteria (at what loan to value) asset backing (what type of property). 

The lessons of structural finance and the macro economic factors behind Government balance sheets let alone Bank balance sheets have meant that having a historic low rate of Bank base rate has meant far less for property markets than it would otherwise have done (in pre credit crunch years).

The effect of lower interest rates for such an extended period of time is one hopefully that gives the opportunity for UK Plc to resolve its economic woes in part presented by the parlous state of the UK’s Banking and Finance Sectors.  The hopes are that Royal Bank of Scotland, HBOS, Northern Rock and to a lesser degree the other financial houses ‘get their acts together’ and return to a sound financial footing.

In the meantime, whilst we still inhabit a place in time when there is continuing financial uncertainty and a credit crunch then it remains for canny investors, traders and companies to use all their experience and take the best advice available in sourcing and structuring property deals.

The old adage of ‘cash is king’ also still abounds.  For those cash rich investors now is a great time to be acquisitive.  Competition from debt financed individuals and companies has reduced due to limited supply of finance, whilst holding cash on deposit when interest rates are so low, cannot be sustained in the medium – long term. 

So why take negligible rates of interest on cash deposits, when well let prime investments can yield 5%+?

As Investment Director at Harris Lamb if you wish to discuss aspects of property investment or strategies for existing portfolios I can be contacted on 0121 213 6004 or This e-mail address is being protected from spambots. You need JavaScript enabled to view it