Sunday Supplement – 21/11/2021

Nov 21, 2021


Welcome to the supplement, and, perhaps unbelievably, the 47th supplement of the year. So, there’s this one and 5 to go – and if that doesn’t make you sit up in your chair, nothing will!

A healthy choice of topics this week to consider. I was thinking about going all out and getting stuck into religion (stay with me – there’s a bit of artistic licence here). I didn’t want to go without just tipping the hat to Jordan Peterson’s appearance on Question Time – and what we can learn and use from his style in our day to day businesses and lives. I feel there’s a few more points to hammer home about the general state of play post-pandemic and what we should be expecting in future – and I also wanted to put some colour around “future repossessions” as I know that I, for sure, am not on top of the data enough in that department (and I’ve taken some steps to address that, of course).

So…….they say if you ever want to upset an audience, you should discuss religion or politics. I’d take issue with one of the words in that piece of advice. Or. “Religion” has more than one definition, and you might breathe a sigh of relief (or not!) when I let you know the Oxford definition that I’ll be concentrating on today is “a pursuit or interest followed with great devotion”. Politics contains at least some of this religion, and this is why sides of the spectrum make horrific errors sometimes. They let their pursuits, interests and indeed beliefs, get in the way of facts and getting to the best outcome. They think they know best. They think some things are so self-evident, they don’t even need discussing. They are wrong.

I want to hone in on another belief system, pursuit, or interest. No – this isn’t the movies. It isn’t the pursuit of happiness. Although, it sometimes masquerades as such. This is, instead, the pursuit of money. And indeed, the belief system that it requires to play the game of life, as far as money is concerned.

It should be no surprise that faith in many things, overall, has been shaken in the past 22 months or so. To channel the inner Dickens, I said last year that effectively “it would be the best of times, and it would be the worst of times”. The pandemic has inspired some truly incredible responses from some people, and some sections of society. It has also covered up or helped to justify some reprehensible behaviour from others. People have had time to think, time that life otherwise would never have afforded them. What’s their response? At the moment, giving up work faster than they normally would. Changing jobs and sacking their bosses. Shouting louder in areas where they have accepted sub-standard working conditions and a lack of respect for, quite literally, decades.

There has also been a continuation of the trend that started with the financial crisis that started in late 2007. There is only one belief system on the planet that over 99% of the world’s population subscribe to – and that is the belief in money. Phrase it as you like – we seem to prefer “I promise to pay the bearer on demand the sum of……..”. It manifests itself in effectively the same way however. It can be easy to forget that we live in such a credit-driven society. Creation of money on computer screens. Bank reserves, that are in themselves still based on faith (rather than gold, for example, or other hard assets).

This belief system has been attacked. “There is no magic money tree” we were famously told by Theresa May. Just before a magic money tree appeared to “incentivize” the DUP into forming a confidence and supply agreement with the aforementioned’s minority government after a weak general election performance. And this was small beer – they were scratching around for a mere £billion at that stage. Then covid came, and the magic money tree indeed revealed itself to be an entire forest – but instead of photosynthesising carbon dioxide into oxygen, it required yet more paper (and spreadsheets) to create several HUNDRED billion. And that’s just the UK – the worldwide number is utterly eye-watering.

What rose from the ashes during the financial crisis? Not like a phoenix, but more of a first-birth? Crypto (and specifically, bitcoin) – that’s what. It has been something I’ve struggled with for the past 8 years or so (I first recall hearing about it in around 2013, solely in passing). How do you value it, fundamentally? Well – because a group of other people ascribe a value to it. That group has, of course, been growing massively – tilting it towards the mainstream. Can you level similar challenges to gold, for example? It has uses, but its value to society as a store of wealth (or an insurance/non-correlated asset) is defined by a market price well above its use as a metal. That value has been there for hundreds of years – and seems unlikely to evaporate overnight.

Ah – but you can TOUCH gold. You can own coins, ingots, etc. That does make it easier to understand – although if you hold a significant amount, it is likely (these days) through a provider who is holding the physical gold in a vault somewhere on your (and thousands of other peoples’) behalf. Gold has also had a historic world in the developed western economies as the backer of currency, although we are now talking about over 50 years ago when that was moved away from.

I’m already out of my comfort zone – with my Chief Investment Officer hat on, the one I wear more than any other, I “like” assets which are as defined: “an item of property owned by a person or company, regarded as having value and available to meet debts, commitments, or legacies”. Or even simpler than that – something that creates positive cashflow and, a significant majority of the time, is also increasing in underlying value (that would be more of my definition of a property asset to hold). If it is going to decay in value, its positive cashflow needs to be significantly higher than its depreciation.

One further issue I’ve struggled with when it comes to crypto is the real world application of it, outside of it being a speculators trading tool. The first “transaction” of course was the now-famous two pizzas for 10000 bitcoins, which has been reported on for some years now – with the amount paid for the pizzas in dollar terms blowing up from $80 million in 2018 to $3.7 billion in 2021. This is great stuff – as a gimmick. Indeed, selling properties in crypto has been “a thing” for a couple of years. But – here’s the kicker – and my issue – they aren’t DENOMINATED in Crypto. They accept the currency, but based on the conversion rate “in the now” (which of course, is exceedingly volatile). Until the time that legitimate transactions are denominated in crypto, the pedant in me feels that the dictionary definition of “currency” has not yet been satisfied.

On a personal level, I have only ever heard of people carrying out transactions in Crypto for real world things when there is some law-breaking involved. It has long been the case that Crypto has been the dark-web currency – and also I’ve heard of it being used and seen it being proposed for transactions to evade taxation. At the governmental level, many organisations are constantly decried for their inefficiency, particularly by the libertarians. Their argument is that the government is useless at allocating resources, and so they should butt out and be tiny – as tiny as possible. However, HMRC in my numerous dealings with them over the years has instead struck me as the country’s most phenomenal business – and I wouldn’t be betting against them to collect some significant capital gains tax that is due in this space, over the coming years.

Anyway – what’s the blocker there for me? Why have I not got involved, many people have asked me? We have to start by challenging ourselves and our belief systems if we want to move forwards in life – and by assuming we have got it wrong. Then I saw a stat which I found very interesting, and dug a little deeper. I have not been able to get to the methodology behind these stats, so I have no idea of their accuracy (remember, 83.3% of statistics on the internet are made up on the spot – Thomas Edison said that…..)

Firstly the hugest correlation is between your appetite for crypto and your age. 94% of buyers are 18-40 years old. 94%! Despite this, the largest amount of money per head is spent/converted/invested/gambled by Generation X buyers (41-56), just ahead of millennials. The third is that the level of debt that the average millennial is carrying (and all these stats are from the USA), ignoring mortgages, is far higher than the generations either side of them. Is this why they have so much hope in an alternative system – because the current one has let them down so badly?

Perhaps you can see now why I kicked this off by talking about belief. Because it is so incredibly important, in this context. I’m a comparative agnostic about most things to do with most belief systems. Tell me, show me evidence, then we can talk about me signing up for the “club” of whatever it is. Show me half the evidence, or fix the figures, or tug the heartstrings – and I’m on it – I will be almost impossible to convert from there. What I see at the moment is a new way of gambling – and I’ve mentioned one of my favourite quotes of all time in the supplement before: “The gambling known as business looks with austere disfavor upon the business known as gambling”. (Ambrose Bierce). I have no issue with gambling – so many things in life are dressed up as something else, when really, they are gambling (to some extent) – in my view anyway. Some prefer “calculated risk” – or similar – for once, I’m not too precious about the terminology in this context. Well, if I’m honest, I prefer the risk definition……because I think that “risk management” is the number one skill in property (and, arguably, in life). Good risk management will lead to satisfaction and, hopefully, happiness and a smoother ride than you would otherwise enjoy.

So, those above 40 – we are likely to have to work quite hard to get into this in any meaningful way. Some will already have done. Those who have been “in” for some time and are “playing with profit” – that would be my preference/advice for what it is worth – have very little to lose at this point if they aren’t banking profits. There are ETFs now and more products and wrappers being defined all the time which will allow for some exposure – and whilst volatility is still so very high, a pound-cost-averaging strategy could be a wise one. I’m not getting involved just yet, personally, but that’s because I don’t want to do half a job. I have plenty of risk capital allocated outside of property, and that has delivered solid returns for many years. I will take some persuading to move any of that – and also some persuading in reallocating more risk capital away from property. This is a portfolio-level or enterprise decision. If you aren’t going to get so bogged down in that detail – and again, I am questioning my own mindset here – then throwing an affordable amount in on a weekly or monthly basis makes some sense. Just remember – don’t gamble more than you can afford to lose and as they say these days, when the fun stops, stop. (and we haven’t even started on NFTs, which, honestly, I have even less of a clue about).

As we’ve ventured into belief systems, it segues nicely into the Jordan Peterson appearance on Question Time. A controversial character, I know no-one who can flush out someone’s ideology or political allegiance so quickly (nor do I know anyone who there is more nonsense written about and peddled). I’ve spent many hours watching Peterson videos, debates and interviews. Being somewhat different in my outlook, my interest has largely been in the style that he employs when debating, and also how he thinks about problems and goes about trying to solve problems. His eloquence is incredible and he is more careful with his words than anyone I have ever seen speak before.

However, he has (like all of us) a few core points that define him. You can guarantee that every problem, especially at a macro level, he will describe as “multi-variate”. They are, of course – that’s why they are governmental level problems. One of his chief bugbears is the idea of equality of outcome being “enforced” by do-gooding segments of society – whilst being a fierce defender of equality of opportunity. This strikes me as a difference between an ideological standpoint and a just and fair standpoint – and so it is an understandable distinction. He knows an incredible amount about human psychology – and has a superb ability to cut straight to the quick of a problem, and take all the emotion out of it – he wants solutions, fast. This is probably, I think, the best thing we can take from the way that Peterson thinks about the world. I first had that concept introduced to me some years ago as the “ladder of accountability” and I’ve chosen it as this week’s image……it is something I have implemented and try to remind myself of on a regular basis. All the effective entrepreneurs I have known have used a variation of this in a crisis situation and, indeed, even on a day-to-day basis when the typical firefights come up.

One thing I can say in conclusion is that with Peterson, I admire the man’s tenacity in trying to solve the problem – even when he knows the problem cannot be “solved”, but to make steps forward. He made some beautiful points that were misconstrued almost immediately by the politicians, who sadly turned into professional excuse-makers, as they usually do – and the nuance was, in my view, lost on them. He has a beautiful mind, and may be one of the greatest philosophers this planet has ever seen. I know that’s incredibly high praise – and it shouldn’t be confused with me agreeing with everything he says (I don’t – but I know I’d have one hell of a job arguing with him, although I’d give it my best shot) – and, perhaps reassuringly for all of us, he is also clearly a human being with his own demons that he has battled with and his own crosses to bear (not in a Jeremy Kyle sense, but in the sense of a person who doesn’t use smoke and mirrors to cover things up, or believes strongly in transparency and building trust with an audience) – and even if you think he is an evil fundamentalist (I think the worst accusations levelled at him tend to be around that sort of statement), you could I am sure learn a lot by watching his style and how he conducts himself in a debate – and how he thinks through a problem.

Enough digression there! It seems to me, from talking to lots of PIP members and meeting new people as well, guests, first-timers, new members etc. – and these conversations are now, wonderfully, brought back to real life by the face-to-face monthly meetings in each location – that there are some points it is worth me re-iterating. The big one is around the expected returns on capital over the next several decades – which is pretty much a prime concern of everyone reading this supplement! The historical data shows that post-pandemic is a tough time. I’ve adjusted my own expectations for stock market overall returns over the next decade to around 4% per year, with a chance of the market not being in a better shape in 10 years time than it is today. Indeed, it could lose money. For this NOT to happen, there will need to be some significant technological advances – and I’m sure they will come, but there is too much reliance on what hasn’t happened yet, in my view. Sometimes in some industries we can be waiting for decades before a breakthrough that everyone thought was coming. Sometimes, a breakthrough happens (nuclear power would be a good example) which just doesn’t do anything like it was speculated that it could do – free energy was being touted 50-odd years ago of course – instead bills are higher than they’ve ever been and are extremely volatile – and there’s 8 days worth of gas in our strategic reserves!

This decline is in the favour of the labour market. I read some interesting granular analysis over the past week or so. The bottom 25% in terms of pay have never had it as good as they have in the past 6 months or so. Brexit and the “hostile environment” is playing into their hands. The “great resignation” as described above with people considering their positions and realising there is more to life. Are these factors permanent? No. But it has put significant wage pressure on many of these jobs.

At this point, in sectors where there are not significant shortages, other wage growth is very weak indeed – well below inflation (and yes, I couldn’t quite give it a week off – but there will be plenty more on that next week, don’t worry). More than that – people don’t want to move jobs, necessarily – because they are still very uncertain about the pandemic, and outcomes, and the future of companies. Just like moving house at the moment – for quite a significant slice of the population, certainty is more valuable right now. As volatility does finally calm down and get to normal levels next year (and it will, in my view), this may see a change in this part of the market as well. Labour will be in a stronger position at this point, rather than a weaker one, and further pressures on shareholder returns will start. Perhaps some of this is why Elon has let his faithful followers dictate that he should liquidate some stock and pay his tax on it – I do think it is worth noting just how many shares some of the very big boys including Musk and Bezos are selling right now, and the “veil” of a twitter poll should really not let anyone think that is anything other than a well-executed piece of subterfuge. Clever as always.

The arm-wrestle between capital and labour – the principal-agent problem – the hybrid working environment – there’s lots to play out, but on the macro level I’m on the side of history on this one and I do wonder what the outcome might be. Does this make me property-bearish – no. Quite the opposite. Bonds are underperforming right now, horrifically, for bondholders. Retail commercial property acted as a significant “bond-style” asset for generations. Prime Central London has been considered somewhat similar (but had a tough 7 years, or so). Either way, institutions need more. Pension funds need more. If my equity return predictions are anywhere near the bullseye, they have a problem – and really, only property can help try to solve that problem in any meaningful way.

There’s capacity for institutional money. Our market in the UK is way behind Europe and that is way behind the US for institutional money in residential property. They’ve also got appetite – there’s a genuine need for fairly lukewarm returns that are “safe as houses”. There are still lots of problems to iron out before they consider too many second-hand assets, particularly beyond a certain age of a building – but the way affordability at the rental level (cui bono – who are one of the beneficiaries of the bottom 25% of incomes taking a significant bump upwards – the landlords of course) is moving, and the way that rents are moving, this may well change some of these parameters over the next few years. Small funds are already looking at blocks of flats with 6 flats or more in them – I see this requirement all the time these days – so there could be a real dawn coming. I see limited comparative investment news (i.e. – I have money – where do I put that money to get a real, meaningful and secure return) that doesn’t look pretty good for property compared to other assets in the next decade and beyond, at the macro level.

Does that guarantee “no wobbles”? Of course not. Don’t be silly! But it means it should continue, in my view, to attract the vast majority of our collective focus.

As we draw towards conclusion for this week, I wanted to put some figures out there for everyone’s consideration – so that we can look at the scale of a few things and it can help us put into context some of the headlines that we’ve already seen, and see on a day-to-day, week-to-week, basis. One of the things I like to try and do to add a bit of value is deconstruct some of the headlines – yes, there will be some who say “well, just don’t read the mainstream media” but I feel they miss the point. The mainstream read the mainstream media and it shapes expectations. It is very useful, when forecasting, to understand what OTHER people might do (particularly the majority) even if you think the headlines are utter nonsense. It might well pay to just be a straightforward contrarian and do the complete opposite – although I’d hope you can do a bit better than that with a bit of refinement.

A typical year, a normal one (you know, one of those ones that never happens) could be reasonably expected to see about a million residential property transactions. Perhaps even up to 1.2 million, although the trend over time is very clearly fewer transactions each year as prices and frictional costs increase. Not massively, but slightly fewer. This year Zoopla is predicting more like 1.5 million, due to the demand caused by Covid (and the overall distortion to the market caused by other factors on the back of the pandemic).

Move then to auction – there are around 25,000-30,000 lots per year that trade through auction. Of a typical year – 2.5-3% would be a good stab. These numbers have been static for the best part of a decade, pre-covid.

Then to the rental market. There is some significantly variable data out there – and I seriously question some of the sources. I’ve looked at this from a couple of dozen different angles – and this week I am going to share the propertymark figures from their members survey earlier this year. All the larger agents are members, although there are of course plenty of self-managers and smaller agencies who don’t want to pay the ferryman for the accreditation. Aside from anything else, Propertymark operate a spectacular website and news resource, the best in the lettings industry with lots of use for investors too.

This is a direct quote from their report from last year – and, given that this is their business and sole revenue source, I would expect it to be accurate:

“ARLA Propertymark members manage almost half of England’s private rented sector
The number of private rented homes in England currently sit at 4.8 million, according to the latest English Housing Survey published by the Ministry for Housing, Communities and Local Government (MHCLG), and as of May 2020, ARLA Propertymark members manage 47 per cent of those properties.
ARLA Propertymark has a total of 10,219 branches within its membership in England, with an average of 221 properties managed per branch. As a result, we believe that ARLA Propertymark members manage approximately 2,258,399 properties, equalling almost half of the private rented sector in England.”

Not all of those will be private tenancies, of course, but the vast, vast majority will be. The English Housing Survey referred to above concluded that (at the end of 2020) there were 23.8 million households in England, 35% were unencumbered owner-occupiers, 30% were mortgaged owner-occupiers, 19% were in the private rented sector, and 17% were in the social sector (there’s a rounding error there somewhere since it adds up to 101%, for the eagle-eyed!). Breaking the social sector down, out of interest: In 2019-20, 10% (2.4 million) rented from housing associations, and 7% (1.6 million) from local authorities.

Then remember this is just England, and there are of course other constituent parts of the UK.

Then there are the off-market deals, which we are often very interested in – the usual year sees around 7,000 off-market deals struck (not easy to manage) – and of course, some BMV companies are transacting on stock which is technically on the market – but it gives you an idea of just how small that segment of the market is, in transaction volumes.

Then there are the repossessions, and, before the repos, the blunt instrument that they are, we need to consider the arrears.

Like most financial forecasts from early 2021 – UK Finance were no different in their bearishness during the third lockdown. It was reported on thus:

“UK Finance has warned that home repossessions may surge tenfold in 2022 as coronavirus support measures come to an end, saying that while 2,900 properties were repossessed by lenders in 2020, this could rise to 22,300 in 2022.

Around 81,300 households were in home loan arrears last year, but figures suggest this could climb to 142,200 in 2021, prompting a surge in repossessions.

A ban on seizing homes put in place by the Financial Conduct Authority ends on 1st April, while analysis shows that the number of homeowners utilising mortgage holidays rolled out amid the pandemic currently stands at around 127,000.

Mortgage arrears will also rise to 142,200 this year from 81,300 last year according to the trade body, but fall back to 120,900 in 2022.”

As predicted with the overall economic figures, we aren’t where the forecast thought we would be and it was indeed overly pessimistic. Here’s the latest highlights and figures:

Arrears are at a near-historic low.
Mortgage holidays are long over but lenders are providing tailored support to cases.
74,210 mortgages are in arrears above 2.5% of the balance and that’s fallen since the last quarter.
Early arrears are at 25,110 (between 2.5% and 5% of mortgage balance) – lower than pre-pandemic.
27,980 homeowners are in arrears at above 10% of their mortgage balance. This is an increase on pre-pandemic. So – overall arrears are down (in volume) but for those the pandemic has hit hardest, there is more trouble to get out of.
5,670 BTL mortgages are in arrears of 2.5% or more, and that’s also fallen from the last quarter.
410 homeowner-repos and 320 BTL repos took place in Q3 of 2021. (tells you about the appetite for repo in BTL versus homeownership, of course, but there are still some aggressive lenders out there who have bought debt from the financial crisis hangover too).

So – we can see there are around 33.5k of houses under serious threat of repossession/in the pipeline. That’s the >10% homeowner arrears plus the >2.5% BTL arrears. The missing piece for me, at this time, is knowing how many of those convert or will convert. The expectation, however, and I am sure this will be “guided” by the regulator as necessary, is that there will be a gradual increase in these possession cases as the courts work through the backlog. If it looks like the NHS figures, or anywhere near those, then this could easily be several years if not 5-6 before these cases are all settled (or get out of trouble, of course).

The conclusions seem to be, although from a bigger evidence base, that:

Repossessions are likely to form less than 1% of all transactions next year in the marketplace.
If necessary, the can will be kicked further down the road.
A slew of debt-forced sales is unlikely.

What we also need to remember however is that often motivation for sale comes from other debt, not arrears on property – so it will also depend on personal debt levels (which have reduced massively, but if we follow the repo logic from above – there will be a sector who have larger debts than ever before, so smaller numbers with bigger problems).

Either way, at perhaps 1000 repossessions for Q4 (let’s see – maybe 1500) the auction stock might go up a few percent, although asset managers may also be preferring open market disposals whilst supply of second-hand stock to market remains so short overall.

The overriding message, which also is congruent with what myself and my team are seeing on the ground, is that there is a slower return to a more “normal” market but a fast jolt of stock is highly unlikely, and instead the supply numbers are likely to be stickier than we, as ready, willing and able buyers, would like!

Stay safe until next week, where, predictably, we might have to get back to some inflation. Or I might surprise you. Who knows! We love comments, feedback, and unashamedly ask for likes and shares – thanks in advance!