What is Inflation?
From gas to groceries, we are currently experiencing a rapid period of inflation. Put simply, inflation is the devaluation of the dollar resulting from a consistent increase in the price of goods and services. Inflation is often caused by a dramatic shift in demand for certain goods and services or a sudden increase in wages, production expenses, or raw material cost.
Currently, core inflation (inflation less economically volatile products such as food and energy) is higher than it has been since 1991 and the Consumer Price Index (CPI) reported a 5.4% increase year over year in July, the largest jump since 2008.
Experts debate over whether data like this is cause for concern. Good or bad, economic changes like this impact our day to day lives and are worth considering.
How Does Inflation Impact Real Estate?
Every industry is impacted by inflation, and real estate is no exception. How does inflation impact real estate investment?
Property values will grow
As we discussed in the previous section, inflation often involves the increase in prices across multiple industries, so it should come as no surprise that the cost of homes would increase as well. Builders are forced to spend more money on raw materials, resulting in increased cost of new construction. Additionally, existing property value will increase as new construction slows down.
Rental rates will increase exponentially
Rental rates are one of the most obvious inflation-related changes in the real estate industry. Often mortgage rates rise during inflation, encouraging many to rent rather than invest. In the current climate rental rates are on the rise, but for a different reason. The buying frenzy of the last year has decreased home inventory, forcing many potential buyers to rent. In either circumstance, the end result of an increased demand in rental properties is increased rental rates.
Is Real Estate a Wise Investment During Periods of Inflation?
Should you invest in real estate during inflation and other economic uncertainties? Investing experts argue you should.
Rising prices increase the resale value of property over time, so real estate is a wise investment despite the devaluation of the dollar. Additionally, real estate investments can generate income as rental properties, whose rates only increase during periods of inflation.
When you apply this principle to the current economic climate, purchasing real estate is a strong investment. Current real estate owners have more equity in their homes than they may realize due to the rapid increase in housing prices. Tapping into that equity to invest in real estate is an outstanding way to take advantage of the current market conditions.
Warren Buffett, investor and CEO of Berkshire Hathaway, argues the best business to own is one that doesn’t require continuous reinvestment. Business like this become more and more expensive as the dollar is devalued.
“The best businesses during inflation are the businesses that you buy once and then you don’t have to keep making capital investments subsequently,” Buffett said, adding that “any business with heavy capital investment tends to be a poor business to be in in inflation and often it’s a poor business to be in generally.”
With regard to real estate investment in particular, Buffett remarked that real estate purchase has the benefit of being resold in addition to the “one-time outlay” he suggests for all wise inflation-time investors.
“If you’ve got something that’s useful to someone else, it tends to be priced in terms of replacement value over time, so you really get the inflationary kick,” Buffett said.
The Bottom Line
Investing during a period of economic uncertainty can feel like a risky choice. However, done wisely, it is a great way to preserve your portfolio’s buying power and keep your nest egg growing. Real estate, a commodity which is always increasing in value, easily resells, and provides rental income, is an excellent investment choice, inflation or not.
Dan Hamilton is the founder of Hamilton & Co. and the lead listing agent for the team. He is the only agent in the Upstate endorsed by Shark Tank star and real estate mogul Barbara Corcoran. Additionally, Dan hosts a weekly radio show on The Answer 94.5 and 106.3 WORD giving tips and advice on real estate and is a frequent contributor for real estate on Your Carolina TV show on WSPA Channel 7.