Worried About Inflation? Buy Real Estate
Let’s start off with a quote. “The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislatures. The inflation tax has a fantastic ability to simply consume capital. ... If you feel you can dance in and out of securities in a way that defeats the inflation tax, I would like to be your broker — but not your partner”. Any guesses as to who said that? Bueller? Bueller? That’s Warren Buffet talking to Forbes magazine. The year? 1977.
So why would we want to talk about inflation if we’re a real estate investment podcast? Well, as we write and record this it’s September of 2020. COVID 19 is still killing about 1,000 people a day, there’s an election coming up, the national debt is 26.5 trillion, the economy is in a deep recession, and most importantly, the Federal Reserve Bank just gave us a clue on what the future will look like inflation-wise.
First of all, inflation is a general increase in prices and fall in the purchasing value of money. Here’s another example. If you had $100 in a bank account in 1977, it would be the equivalent of having $430 in the bank today. However, the median US rent in 1977 was $108. The median rent in 2020? $1,500. That $100 dollars in 1977 could almost pay your monthly rent. $430 is nowhere near paying one month of rent. Do you see the reduction in purchasing power of the dollar over time?
The federal reserve bank came in existence in 1913 through the Federal Reserve Act which was passed by congress. The idea here was that we needed some economic stability, so we created a central bank. This central bank would oversee monetary policy and have the ability to inject money, or liquidity, into the monetary system. Before 1913, panics and a run on banks by the depositors was commonplace. Investors and depositors had nothing to guarantee the safety of their deposits or investments. The Fed had another task as well known as the Dual Mandate. Their job was the maximize employment by keeping inflation low.
This year in late August, the chairman of the Federal Reserve Bank gave a speech outlining a change in some of the Feds policies. They were going to let inflation run a bit higher before hiking interest rates, and they were going to shift their focus on employment to those at the lower end of the spectrum. After all, those at the lower end of the spectrum have been hardest hit by the economic effect of COVID-19. Even though we’re in a recession and unemployment is high, if the controller of the nations monetary policy says they’re going to concentrate on the labor and workforce employment numbers, it sounds like a good time to own the type of housing those individuals live in.
So while the Fed views a small amount of inflation as a good thing for the overall economy, we as investors need to understand its effects on our money. While I can’t predict if we are about the enter a high inflation period even if the fed says otherwise, I do know where I want my money in case inflation should skyrocket. The worst place for your money? Sitting in the bank. In todays era of sub 1% interest rates on deposits and inflation around 2% a year, it doesn’t take a genius to realize you’re slowly losing money.
So what investments are ideal as a hedge against inflation? Basically, any investment that’s tangible. If you can hold it and touch it, it probably does well. The first that may come to mind is gold. Throughout the centuries, the value of gold has generally remained the same as the value of the currency that it trades for. It’s a great hedge against inflation. In times of uncertainty, people flock to gold. In fact, the price of gold is up from about $1,500 an ounce at the start of this year to about $1,950 in September of 2020. What else does well? Commodities. Things like Oil, Natural gas, cotton, and soybeans. You can trade futures on these on the futures market if you’re experienced enough. Or just buy an ETF that tracks the index of these commodities.
Of course, since this is a real estate podcast, Real Estate is a great hedge against inflation for a few reasons. First, like we explained previously with gold, the price of real estate will increase with inflation. That helps protect your investment. Second, since most real estate produces monthly income, the price that landlords can charge for that monthly rent can increase with inflation as well. While prices for other things like utilities and repair costs will increase with inflation, the price of your mortgage generally will not. If you have a long fixed term on your mortgage, you’ll actually profit slightly from inflation since rents will go up and your biggest expense, your mortgage, will remain the same. With a long enough hold on a property your mortgage payment, which seemed expensive at the time or purchase, may end up seeming rather cheap after 10 or 20 years.
While we’re on the subject, if you’re interested in investing in apartment buildings with us, be sure to go to our website highyieldre.com and join our passive income club. That way, we can get to know each other and we’ll let you know when the next investment opportunity comes around.
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