Recession and the Property Market
Recent figures from the Office for National Statistics (ONS) showed that the UK economy fell into recession in the final quarter of 2023. The word ‘recession’ seldom inspires confidence among property investors but, as we’ll explore in this article, this one presents no serious cause for concern.
A ‘Technical’ Recession
Many commentators, including journalists and the Bank of England, have rightly pointed out that the UK is only ‘technically’ in recession. This is an important point because it raises the question of what recession actually means. In the UK, it is defined as two consecutive quarters during which economic output falls.
Earlier this month, ONS reported that the economy had shrunk by -0.3% between October and December 2023. This followed a fall of -0.1% between July and September. Those are not huge figures by any means, but any negative figure is enough to trigger that technical definition.
For the great majority of ordinary people, the difference between plus or minus 0.3% in Gross Domestic Product will be all but imperceptible. What really matters is scale. For comparison, the major recession of 2008 saw a -6.0% fall in GDP, and the economy shrank for six consecutive quarters. Falls of that magnitude produce much more visible impacts, not least in investment markets, but happily, that is not what the country is facing now.
“The Weakest Recession by a Long Way"
Commenting on the ONS figures, the Governor of the Bank of England Andrew Bailey played down their significance. He said that by historical standards, this was “the weakest recession by a long way,” and added that the UK is already witnessing “distinct signs of an upturn.” In other words, given that GDP shrank by such a small amount and given that it now seems to be growing again, the recession may already have ended. We won’t know that for certain until ONS publishes its figures for the first quarter of 2024, but the consensus among economists is that it’s a safe bet.
Writing on 13th February, the BBC’s Economics Editor Faisal Islam wrote: “Few forecasters believe that (the recession) will last into this year. Indeed if, as expected, the economy is currently growing between January and March, it may be over even as it is officially defined.”
Market Sentiment
Average values and sales activity in the property market are often influenced by market sentiment. On those occasions when it’s clear that the country is entering a significant recession, many property investors become understandably cautious. A large drop in productivity can mean job-losses, slower growth in average earnings, and more defaults on mortgage or rental payments. None of those are good news for investors, whether their priority is yield or capital growth.
In 2024, however, those are not credible grounds for any loss of confidence. The employment market has remained remarkably robust, and average earnings continue to grow at well above the rate of inflation. The principal risks that have dogged previous recessions are essentially absent.
Over the last two years or so, the bigger concerns for investors have been the cost-of-living crisis and high interest rates – but the good news there is that the country seems to have weathered the worst of the storm.
Inflation (as measured by the Consumer Prices Index) is now running at 4%, down from a peak of 11.1% in October 2022. The cost of living is still rising, of course, and 4% is much higher than the Bank of England would wish, but there’s a widespread sense that the battle is being won. The Bank’s Monetary Policy Committee (MPC) has kept the base rate of lending high (by recent historical standards) at 5.25%, and it now seems confident that CPI will fall to its 2% target some time this year.
The likelihood of that is increased by the fact that the price of gas and electricity will fall significantly from April of this year, thanks to a reduction in the price cap. On 23rd February, the energy regulator Ofgem announced that the typical domestic energy bill would fall to £1,690 per annum. Energy costs have been a heavy burden for many households, so a typical annual saving of £238 will certainly help to take pressure off strained budgets.
Interest Rates
The cost of servicing a mortgage is also likely to fall in the coming months. The rates that lenders set are generally determined by swap rates – in other words, the interest rates that the banks themselves have to pay on the money they borrow. Over the last few months – amid a broad expectation that inflation will fall and that the MPC will announce a cut in the official Bank rate – swap rates have been falling. Consequently, banks and building societies have been able to introduce increasingly competitive rates and those, in turn, have translated into better deals for home-buyers and buy-to-let investors.
Addressing MPs, the Bank’s Deputy Governor Ben Broadbent refused to give any specific date when the MPC might start to reduce the base rate, but he left little doubt that the next movement would be downward. Discussing that possibility, he said “in my view, that is the more likely direction in which Bank rate is likely to move.”
However, he also emphasised that “even if that proves to be the case, the timing of any adjustment can only depend on the actual evolution of the economic data.” This echoed Andrew Bailey’s cautious comment that although the UK is “beginning to see things going in the right direction," there would need to be more evidence of that before the MPC would commit to any rate reduction.
GDP and Interest Rates
Nevertheless, there are convincing reasons to expect interest rates to fall in 2024. First, of course, inflation is falling, and the closer it gets to the Bank’s 2% target, the less reason the MPC has to keep interest rates so high.
The recession is, itself, another good reason to expect interest rates to fall. The Bank of England is already attracting criticism from some MPs and industry bodies, who argue that the existing rate of 5.25% is deterring investment and acting as a brake on growth. The Bank is aware of the argument but it has a formal remit to control inflation and has stated that it will not cut rates until it has clear evidence that its 2% target is achievable.
Nevertheless, the Bank rate decision is the result of a vote by its members, and those individuals will be very conscious that growth-rates are currently very poor. In fact, the UK economy has been stagnating for some considerable time; over the whole of 2023, GDP grew by only +0.1%. That represents the weakest annual growth since 2009 and means that the country only narrowly avoided a longer technical recession. Hovering around the zero-growth mark is not where anyone would wish the UK economy to be, so we can expect the Bank to come under increasing pressure to cut the base rate and allow GDP more opportunity to grow.
Swati Dhingra is the only member of the MPC who voted for a rate-cut at its last meeting. Explaining her decision, she said that inflation was already on a “bumpy but downward” path, and that monetary policy “needs to be forward-looking because moderation of the policy stance requires time to implement and to feed through to the real economy.”
In other words, there’s always a delay between a change in the Bank rate and its effect on economic activity, so if the MPC waits too long before cutting interest rates, it will constrain growth for longer than is necessary. She warned that a high base rate will “continue weighing on economic growth and living standards for more time, even if moderation starts now.”
After seeing the latest ONS figures, the other MPC members will be keenly attuned to those arguments. Consequently, the balance of their votes may soon shift.
Investor Confidence
For investors, the prospect of lower interest rates is not the only basis for optimism. As inflation falls, ordinary tenants and home-buyers should find that their domestic budgets stretch further. Over time, that typically creates more room for growth in both rental and capital values.
For many months, average rental values have been rising strongly and steadily – at well above the rate of inflation. Goodlord’s January Rental Index notes that the average national growth rate was +7.0% year-on-year, but even higher in certain regions such as the North West (+9.0%) and the West Midlands (+8.2%).
This impressive growth is primarily the result of very strong demand, coupled with very restricted supplies of suitable housing stock. We covered the subjects of housing supply and demand in previous posts but, in short, demand looks set to exceed supply for many years to come. And for so long as it does, those fundamental market forces will tend to exert upward pressure on rental values.
There is a similar shortfall in supply within the house-buying market. Here, however, those upward pressures have been counterbalanced by affordability concerns, and the result has been little or no annual movement in average values.
There is no clear agreement on price growth across the various house price indices. Zoopla’s figures for January showed a year-on-year fall of -1.8% while Halifax shows a +2.5% increase. An average of all the leading sources currently produces a figure close to zero. However, as household budgets improve and mortgage costs gradually decline, we can expect affordability to improve and capital values to recover. They almost certainly won’t return to anything like the astronomic growth rates that we saw in 2022, but a slow improvement seems distinctly likely in the longer term.
Industry Feedback
Despite the news of a technical recession, many landlords and lenders are reportedly upbeat about the improving conditions within the property market.
A recent press release from the specialist lender Paragon Bank notes that 37% of portfolio landlords, (i.e. investors with four or more properties) plan to increase the size of their portfolios in 2024. It states that “92% are confident in the prospects for strong tenant demand for their properties” and goes on to break down the key motivations among investors: 58% reportedly invest for long-term capital gains, 54% for pension-provision and 48% to develop a main source of income.
This chimes with research by another lender, Foundation Home Loans, whose December 2023 report describes “a far greater degree of positivity than we might have been led to expect.” The company writes that market confidence increased “across all metrics on a year-by-year basis.” Those metrics include investor confidence about:
Capital gains being achievable
The state of the sector as a whole
The UK financial market
Rental yield prospects
Tenant demand
The Intermediary Mortgage Lenders Association points to a similar improvement in market sentiment among brokers. In its Mortgage Market Tracker report for Q4 2023, the IMLA writes that 92% of its members were either “fairly confident” (52%) or “very confident” (40%) about the outlook for their businesses in 2024.
On 19th February, Rightmove offered a summary of market confidence in a press release. It reported that:
The market saw the biggest December-to-January increase in prices since 2020
There has been “promising activity in the first week of the year, markedly stronger than a year ago, as more prospective buyers and sellers seem to have the confidence to get their 2024 moving plans started early”
The number of new properties coming onto the market for sale is +15% higher than in the same period last year
Buyer demand in the first week of 2024 is also +5% higher than in the same period last year
The number of sales agreed is +20% higher than during the first week of last year, “indicating a strong return of buyer confidence.”
Rightmove director Tim Bannister added that “the number of new listings, buyer enquiries to agents, and sales being agreed are encouraging early indicators… For now, the data at the start of 2024 points to building momentum, and reasons for growing market optimism.”
Find Out More
For information or advice about any aspect of property investment in 2024, please call our advisory team on 01244 343 355.
