It always comes back to supply and demand.
- Inflation in small doses can stimulate property markets, diverting investor demand out of fixed income, but harmful should it lead to rate hikes.
- Property offers long-term core investors considerable inflation protection, but is not a short-term ‘hedge’.
- Core investors need to align to wider future societal trends to access inflation protection.
- Commodity price-spike driven inflation also negatively affects prospective developer profits and value add returns via higher construction costs.
- Where value add and opportunistic investor projects are in the right locations and sectors, potential exists to be premium rent setters and not price takers.
It is scarcely believable that a solution to the global pandemic has been found so quickly. This early reopening blindsided a deliberately heavily sedated global economy and has meant new order backlogs, supply chain bottlenecks, and surging global commodity and input producer prices. These cost-push inflation pressures tend to be one-off and with European labour markets still fragile, inflation should eventually subside. Yet many investors are now more hawkish and the hunt for investments offering an inflation ‘hedge’ is now on.
Inflation in small doses can be stimulating to property markets, diverting investor demand out of fixed income towards real assets like property. However, should it lead to rising interest rate expectations, it rapidly turns harmful.
With one or two minor exceptions (eg, Australian retail), globally the correlation between inflation and property returns and rents is typically quite weak. Property is therefore not a ‘hedge’ in the true sense, like say a TIP or index linked gilt. Yet it is widely understood that property rents and prices tend to rise with economic activity and therefore inflation over the longer term.
Core property investors are in the business of long-term investment and the savvy ones look to focus their hunt for appropriate assets in locations and property sectors where the structural trends (ie, demographic, technological and ESG) are most favourable. These will be where prospects for long-term rental income growth will be best and where scope for future inflation protection will also positively align.