Gordon Brown once famously stated that he had beaten the boom and bust cycle and it would be no more under his tenure of the Treasury. While many people were startled at this statement, from a man who was obviously well educated in finance and economics, there were some who believed the myth that boom and bust could be beaten once and for all.
Looking back in history so many of the boom times and so many of the bust times have been obvious when checking graphs from the time, the increase in prices, the economy and other elements, but why have we failed to spot them going forward?
There are many reasons why the boom and bust scenario will never be cracked once and for all which include:-
Looking back in history at the economy the figures can often give an indication as to when a boom time or a bust time may be about to commence. However, these figures do not take into account human emotion and the rollercoaster ride this can lead to for many consumers, investors and others around the world.
Fear can appear in two forms in the property market and both can be as potent as the other. There is the initial fear that property investors are missing out as and when the property market starts to rise which can often lead investors to paying prices which they know in their heart of hearts are overvalued but they still believe they can make a profit. As a property market is rising, more and more people will join to make a quick turn by selling their assets and banking their profit.
Fear also appears in another form, i.e. the fear that as markets start to soften investors need to sell their properties in order not to miss out on the earlier rise. This is a situation which can soon have a snowball effect whereby a small group of investors may sell in a niche market and force prices down, which can have a knock-on effect in surrounding areas and then become a national concern.
Greed is very similar to fear as greed can see more and more property investors piling into markets which have moved too far ahead in the short term. Like those who fear missing out, those who use the greed factor see pound signs flashing before their eyes, little risk and the chance to make a quick turn as the property market rises higher and higher.
As a famous US central bank once suggested, “over exuberance” has seen many economies rise and fall on a regular basis. As much as governments around the world try, the boom and bust scenario in the economy has a massive knock-on effect to the property market. There needs to be a balance between free market and regulations to ensure the overall market position is not put at risk. However this is easier said than done, because if a government is too tight on the regulatory front then investors would just move to markets with less regulation.
On the other hand, if the government allows total self regulation for any one major market in the economy this will attract both respected traders as well as those who may indulge in fraudulent activity. Finding a balance between self-regulation and regulation is something which no government has got totally correct since time began.
As economies continue to grow, consumer incomes continue to rise this then brings about the possibility of investing into the property market. As property markets continue to attract attention, prices will rise until we reach a situation whereby buyers outnumber sellers by a significant margin and prices are squeezed higher and higher. This is also the period at which the mortgage lenders will stretch their criteria in order to retain market share and “profitability”.
As and when valuations for both mortgages and property become stretched this is when we can see a reduction in economic activity, property transaction numbers begin to fall and prices start to soften. With many investors looking to take a profit at the first sign of trouble, a small trickle of sellers can soon become a wave and buyers may well sit on the sidelines if they believe prices are moving further and further down.
Supply and demand
Historically the UK government has always tried to ensure that the supply of new homes in UK is significantly less than the forecast demand. This not only allows housebuilders to plan ahead but also ensures that the UK property market, in theory anyway, should remain fairly solid going forward. There will be peaks, there will be troughs, there will be good times and there will be bad but there is a backbone, the fact that UK new home supplies will always be less than demand – although the argument is a little closer in the current market situation.
Boom and bust are stages of the basic economic cycle and over exuberance and under exuberance can cause major fluctuations in any asset values, especially the property market. It may be easier to think of a booming economy as a runaway train which slowly gathers speed until it reaches a point where it is effectively out of control for a short time at least. This is the same scenario for both economies and property markets in particular.
On the downside we will always have so-called experts calling the top of the property market and stock markets 365 days a year. In the good times these downbeat assessments are ignored although in the bad times they often magnify the seriousness of any one situation and can cause general panic – i.e. back to the fear and greed scenario.
Boom and bust are here to stay and it is those investors who sell too soon who are the more successful breed of investors in the modern day. Those investors who can ride the wave of the economic cycle, and the peaks and the troughs, will be the ones who will be around tomorrow to pick up the pieces.