It was apparently Einstein who opined that the definition of insanity was doing the same thing over and over again and expecting different results. The same principle could easily be applied to making financial predictions and expecting anything other than to be left looking like a fool. Whilst exact predictions are undoubtedly a hostage to fortune, it is possible to take the temperature of the UK economy as it stands at the beginning of 2016 and use this to choose a few investment do’s and don’ts for the next 12 months. Nothing is set in stone, of course (except, perhaps, UK interest rates) but a brief glance at the economic and financial landscape of the previous 12 months should allow us to make an informed guess or two as to the investments which might pay off over the next year.
In terms of the investment environment in general, 2015 was dominated by the General Election and concerns over factors such as the chances of a minority government and changes in policy around areas such as the infamous ‘Mansion Tax’. Inflation remained at rock-bottom levels throughout the year and, indeed, occasionally slipped into the negative sphere. This alone has been enough to persuade the Bank of England to keep interest rates at the record low of 0.5%, a figure which has been in place for more than 6 years now and looks set to continue into 2016.
The combination of low interest rates and the continuing discrepancy between supply and demand, particularly in certain geographical ‘hot spots’, has helped to keep property prices rising. In January of last year the average UK house price was £192,954. By November, this had risen by 6.4% to hit £205,240. Property has been seen as the key UK investment for so long now – certainly in terms of being a safe haven once the effects of the 2008 crash had worked their way out of the system – that it can seem somewhat heretical to cast it as anything other than a wise investment, but a few clouds on the horizon suggest that it may not be the ultra-safe bet in 2016 that it has been in recent years.
Whilst the 6.4% rise detailed above is clearly impressive, particularly when compared to the fact that the value of the FTSE 100 fell by 3% over the same period, it still compares unfavourably with the performance of the FTSE 250, which actually gained 8% in value over the year. Falling oil prices, concerns over signs that the relentless growth of China is finally slowing, and the fact that experts are predicting an imminent rise in US interest rates might all point to investment in FTSE companies being a higher risk, but this discounts two aspects. The first is that much of the impact of the negative factors outlined above has already been factored in by the markets, most notably when the FTSE 100 fell by 15% between April and August 2015, with the FTSE 250 experiencing a 10% drop from its peak in June. Put simply, the evolving situations in China and America seem unlikely to catch the markets by surprise and cause any kind of panic during 2016, and the fact that the US and UK economies, on the whole, are experiencing sustained growth, while the value of commodities such as coal, oil and gas is unlikely to fall as sharply as in 2015, mean that investments in the FTSE could yield strong results. Other positive aspects to factor in include the latest round of Eurozone quantitative easing, which is still working its way through the system, and the ongoing strength of the UK financial sector.
Despite the prediction of continued low interest rates, however, there are a few clouds on the horizon which might serve to cast a shadow over the investment plans of anyone wishing to put their money into property in 2016. The first of these is the decision by George Osborne, announced during the Autumn Statement of 2015, to impose a hike in the Stamp Duty charged on property purchased as a second home or for the purposes of buy-to-let. Kicking in at a starting level of £40,000, this will have the effect of virtually trebling the stamp duty bill on a house worth £275,000, from £3,750 to £12,000.
Whilst, in the short term, the planned changes may instigate a rush to buy before the April deadline, the longer term effects are widely predicted to be a suppression of demand, coupled with an upward swing in private rents. The sheer complication added by the additional Stamp Duty charges, and the clever ways in which tax experts are doubtless planning on discovering and utilising any loopholes, may act as a deterrent to smaller investors who had previously viewed buy-to-let, rightly or wrongly, as a safe and fairly straightforward investment.
Nor is the Stamp Duty increase the only change on the horizon for the buy-to-let sector. In his summer Budget, Chancellor Osborne unveiled a cut in mortgage interest tax-relief for landlords, which is set to be phased in over the four years following April 2017. Currently landlords can claim relief at their highest marginal rate of Income Tax, up to the additional rate of 45%, but over a four year period this will be reduced to the basic rate of 20%. All of this adds up to a situation in which the calculations made by anyone planning to invest in property in 2016 are in something of a state of flux, and the buy-to-let mortgage market looks set to have a degree of the heat taken out of it thanks to the attentions of the Bank of England. In its 2015 Financial Stability Report, the Bank had this to say about the sector:
‘Buy-to-let borrowers are potentially more vulnerable to rising interest rates because loans are more likely to be interest-only and extended on floating-rate terms, and affordability tends to be tested at a lower stressed interest rate than owner-occupied lending.’
Needless to say, this was not regarded as an entirely positive observation, with the Bank determined to take action necessary to reduce the risk of the housing price bubble collapsing. Prior to this, the Bank had already taken tighter control of owner-occupied lending, instructing lenders to ensure that under 15% of their residential mortgages were given to people borrowing more than 4.5 times their income and being given the power to enforce caps on loan-to-value ratios.
In the wake of this, and in response to the Financial Stability Report, the Chancellor pledged to launch a consultation aimed at giving the Bank of England new powers enabling it to impose stricter regulations upon the buy-to-let market. The most obvious move, and one which has already been applied to owner-occupier lending, would be the imposition of stress-testing of loans based upon the possibility of a 3% rise in interest rates. Although a rise in interest rates looks unlikely in the immediate future, it can never be ruled out entirely, and even an increase of as little as 0.25% would have an impact on the profits to be made by investing in buy-to-let property.
It can be tempting to imagine that the UK housing market can take whatever is thrown at it and continue to thrive, particularly in an era when demand looks set to keep on outstripping supply for many years to come. What the above measures amount to however, is a distinct change in the weather. Although each might be a fairly small change in itself, taken as a whole they indicate an approach which combines lowering the ‘easy’ profits to be had by investing in property, and making it more difficult to borrow the money needed in order to do so.
Sectors which might prove appealing to investors brave enough to move away from the traditional targets for investment during 2016 include the growing realm of peer-to-peer lending. According to the AltFi Liberum Volume Index, the amount of peer-to-peer consumer lending rose to £1.538 billion by June of last year, whilst lending to businesses reached £1.581 billion. This is a reflection of the fact that both consumers and, in particular, businesses, have moved away from traditional lenders in the wake of the financial crash, and turned to peer-to-peer lending as a means of sourcing the cash which they need. The space which was left by the reluctance of the high-street banks to lend has been filled by companies who, rather than taking the loans onto their own books, act as agents between the parties involved and carry out credit checks for a fee. The relatively low risk therefore taken by the peer-to-peer companies is just one of the factors which makes them such an attractive investment, allied to the fact that the market, though currently growing, still has massive potential to grow further, with much of this growth driven by rising awareness, within the cash-starved smaller business sector, of the opportunities offered by peer to peer lending.
Investors with a penchant toward gambling might opt to invest in China, but not on the hard industrial side of the economy. Much of the wider concern over the performance of China, over and above the general slowdown in growth rates, has been focused upon the shift away from the massive building boom which has characterised the last 7 years. As the infrastructural growth within China becomes fully imbedded, however, there is every chance that its economy will shift focus and become more service led, concentrating on meeting the demands of the growing and more prosperous middle classes. An investment in companies working within the service industry in China, therefore, may well yield impressive results as 2016 unfolds.