Monday, 19 August 2013

Is London experiencing a property bubble? : Sloane International Developments

Before answering that question, we should ask ourselves, what is a property bubble?
A 'bubble' within the context of an economy is defined as trade in 'high volumes at prices that are considerably at variance with intrinsic values'.
Professor Robert Shiller, an authority on US housing defines a bubble as 'a social epidemic whose contagion is mediated by price movements.' Today's article in City AM suggests that investors should 'fear the London property bubble'. The writer concludes that owning a property in London is now a 'status symbol' for wealthy people and that property values make 'little sense'.
In my opinion this view is simplistic and for the purposes of simplicity let's assume that this writer is speaking about what is often called 'prime property' especially since he describes the London property market as a 'status symbol' for wealthy people. It is important to note that there are local markets within London that do better than others in terms of capital appreciation and investment. So if we quickly analyze London's prime markets such as Chelsea, Belgravia, Mayfair etc are they really experiencing a 'bubble'?  Or are other variables at play which factor in the capital appreciation that these markets are currently experiencing.
In any market, the factors that are critical is supply and demand. Supply creates demand according to classical economic theory. If we look at Land Registry sales volume data for Kensington & Chelsea over the past 12 months (the latest figures are available up to Feb 2013 at the time of writing), we get a graph that looks like this:
So the graph indicates that sales volume is down, in other words there are less transactions being completed. We assume there are less transactions to complete because there is less property on the market for sale. I assume this because, the Land Registry records that price or 'capital appreciation' for the same London borough has appreciated within the same time by approximately 10%:
So in other words, within the context of the property market economy supply is down, demand is up. So what is driving demand? Professor Shiller suggests that in a bubble economy price increases and the enrichment of 'early investors' creates 'word-of-mouth stories about their success'. This stirs envy and interest from other would be investors, luring more and more people into the market, causing prices to increase further. As more people are attracted to the market successive feedback loops are created and the bubble grows. Is this really happening in London? Or is something different at play. It is common knowledge that what drives the London property market are international buyers. London is viewed as a safe haven and as long as there exists political instability and financial market volatility, there will always exist strong demand for London property. That could change, if there is significant social unrest such as riots or perhaps even a terrorist attack. But these events would have to take place within a prime market for it to really slow down demand. What effect did the 2011 riots have on the London property market? A 'blip' according to the chief executive at Savills. The Woolwich attack earlier this year did happen in London and was considered a terrorist attack. Yet no one has even dared suggest that this will slow down demand for prime London real estate. My conclusion, property values go up and they go down, but to suggest that London property is currently experiencing a bubble is infantile and misleading from an investment perspective.

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