MARKET COMMENT
From Here To Uncertainty

By David Kuo (TMFDragon)
April 22, 2003

Did you catch the report over the Bank holiday weekend that suggested house prices could double by 2020? According to the Centre for Economics and Business Research (CEBR), a think tank on commercial economics, the price of an average home in the UK could be worth £279,900 in seventeen years' time. That is almost two-and-a-half times higher that the price of an average home in Britain today.

Does the thought of ever-increasing house prices put a smile back on your face? The CEBR forecast represents an average increase of 5% a year for the next seventeen years. For existing homeowners, this is reassuring news. It could, however, instill a modicum of fear into those that are yet to step onto the first rung of the housing ladder!

The CEBR suggested that house prices could climb steadily, due to the lack of supply of adequate housing stock. The economic forecasting group claimed that we are failing to build houses fast enough to meet rising demand.

If the think tank is correct in its assertion then that should immediately beg the question as to who will be able to afford those inflated house prices in the future. In general, house prices have risen largely in line with individual earnings. The more we earn, the greater the likelihood that we will fork for those more expensive homes. But in order to achieve that end, our personal income needs to rise over the long term at the same pace as house prices.

If we take one step back from that argument, then we also need to accept that businesses, which necessarily make use of human skills, should also see profits growth. In fact, profits growth should be at a pace that is in line, if not greater than, the growth in personal earnings. Otherwise how else can these outfits afford to pay for that input called labour.     

Interestingly we are normally quite prepared to accept, at face value at least, any report that proposes continual growth in house prices. Yet, we are sceptical of reports that suggest profits, which have been under severe pressure, will not only recover but also grow again. That has a lot to do with our perception and understanding of uncertainty. These issues about uncertainty relate to political, economic and more recently, perhaps, public health concerns.

What we should recognise, though, is that there can be as much uncertainty associated with the housing market as there is with investing in shares. Additionally, one of the best ways of addressing and counteracting that uncertainty is through diversification. That means spreading our investments across a range of investment vehicles, which should include property, cash (preferably in interest earning bank accounts) and, of course, shares.

The writer has a house, cash in bank accounts and a beneficial interest in a number of shares.