Great blog about what can happen if inflation at even in moderate numbers shows up, and what you can do for protection against it.
Institute for Trend Research economist Alan Beaulieu recently presented inflation expectations and provided actionable guidance, as reported by Paul Diamond, Web Editor, Vistage International. Original article here.
Inflation will likely rise to 6% per year by the end of 2011 and to 7.5% per year by mid 2012.
Beaulieu says, investors can protect themselves against inflation by buying fixed assets, with fixed debt. Assets such as commercial and residential property usually go up along with inflation.
There are two parts to this: interest/inflation arbitrage and price inflation.
Arbitrage. If you borrow money today at 5% and tomorrow it "sells" at 6%, then you are effectively making money (in the penny-saved-penny-earned world view). Let's work it out. At 5% fixed interest for 30 years, the face value of the dollars paid against a $100,000 loan is $193,256. However, if the rate of inflation were 6% during the same time, the amount paid in today's dollars would only be $89,697. A net gain of $10,303 in today's dollars. Obviously inflation is not 6% today and will not likely be consistently 6% over the next 30 years either, but, in preparation for times of high inflation, you want to lock in the low fixed rates today.
Price Inflation. Remember, the price of a property doesn't change its true value. But, if we again take 6% inflation over 30 years, a $100,000 home will have a sticker price of $599,261, or nearly 6-times the purchasing power than if you had left the money under the mattress.
Diamond writes that based on the movement of the leading economic indicators, Beaulieu believes
- "Deflation is over and inflation will steadily ramp up to 6 percent 2011 and 7.5 percent in 2012."
- "U.S. housing markets have reached their lows and home values will soon stabilize and perhaps begin rising again later in 2010."
Separately, we know the FED plans to cut back on buying mortgage backed securities by mid-year 2010, which will cause an increase in interest rates.
Here is the advice from Beaulieu, an economist with no vested interest in the real estate market, "To protect against inflation, buy a home or a second home with a fixed mortgage. Housing prices are at or near their bottom. Rarely do low interest rates align with low prices and the promise of a modest recovery two years off. There won't be a better time to buy real estate in our lives."
If you are worried about the remaining toxic assets and their dampening effect on the real estate market, you need not be. Inflation will raise the price of homes and restore the "value" of these assets. Although lending standards are being tightened, foreclosures will slow to a trickle and the "strategic defaults" will disappear entirely.
One last piece of actionable advice from Beaulieu, "Borrow as much money as possible in 2010, as conditions may be less favorable in the years to follow."
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