Owning a house is your best hedge against inflation, but not right now

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The long-term solution to your inflation problem is owning a home.

For now, the relationship between housing and inflation can best be described as dysfunctional. Inflation is roaring and house prices in many cities are falling, in some cases by a lot.

But the experience of the past 40 years suggests house-price gains will beat inflation. Keep this in mind if you bought recently and feel the burn of buyer’s regret.

With all that’s going on in housing today, it’s easy to overlook the fact that real estate is listed alongside gold, stocks and commodities as a classic inflation hedge. Assets that hedge against inflation can be expected to rise in value by the same amount or more than living costs are going up.

For now, real estate is really failing as a support against inflation. The index tracking real estate investment trusts in the Canadian market was down close to 18 per cent for the year through earlier this week. REITs hold commercial property, including offices, malls and rental apartments.

Houses and condos have also been an inflationary letdown. With living costs up 7 per cent in August compared with a year earlier, the average national resale home price was 3.9 per cent below the level of a year ago and 22 per cent below its peak this past February. The long-term numbers look great, though.

The average national resale house price back in 1982 was $72,440, Canadian Real Estate Association numbers show. Using the Bank of Canada’s inflation calculator, you get an inflation-adjusted 2022 equivalent of $198,819 based on 2.6-per-cent average annual growth in the cost of living over the past 40 years.

Actual national resale prices in August averaged $637,673, which suggests we’ve had four decades where price gains averaged 5.6 per cent a year. A little better than twice the inflation rate, in other words.

Compare how different interest rates affect the cost of your mortgage

Even as housing plans progress, truly affordable housing is being lost

The flaw with houses as inflation-fighters is that you get no immediate help from your property in covering higher costs for groceries, gasoline and home heating. Rising home equity is a funny thing. It matters because it increases your net worth and stands up to inflation over time, but it’s rather useless in the day to day.

It turns out that homes aren’t great inflation hedges when inflation is raging. You see that both now and in the 1980s. The inflation rate was 10.8 per cent in 1982, while the national average resale home price fell 4.7 per cent compared with the previous year.

Inflation initially hurts housing because it leads to higher interest rates, which in turn raise the cost of financing a house purchase with a mortgage. Posted big bank five-year mortgage rates averaged 17.5 per cent in September, 1982. The comparable five-year rate today is about 6 per cent, which is a big increase over levels of recent years and enough to have prompted the decline this year in home prices.

Where housing excels is in times when inflation and interest rates are both low, or at least in decline. The average national resale house price swelled by an average annual 6.6 per cent over the past 10 years, while inflation averaged just 1.7 per cent.

Stay patient if you’re waiting for an inflation-beating payoff from houses bought recently. For that to happen, we need to get back to a world of stable, low inflation and interest rates. We likely need house prices to come down further as well to improve affordability in a way that sets up a new leg higher for real estate in the years to come.

And maybe don’t expect your house price appreciation to be double the rate of inflation over the long term. The exceptional price increases of the past two years were driven in large part by the pandemic, which caused central banks to squeeze interest rates to near zero and prompted people to make big changes in their living arrangements.

For renters, the most practical inflation hedge is to invest in stocks in a tax-free savings account. Expect returns averaging around 6 per cent from stocks over the long term, including dividends. To amp up your inflation-fighting portfolio, target stocks that have a record of increasing their dividends every year. Earlier this week, I took a look at dividend stocks with recent growth rates that top even today’s high inflation rate.

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