The interconnectedness of the “global village” phenomenon provides investors with an opportunity to hold property anywhere in the world. The real estate sector maintains its position of allure and financial stability for investors worldwide. In most cases, investors only give a glancing thought to exchange rates when home hunting locally. However, the circumstances are completely different when considering to expand property investment overseas. You would consequently have to manage money exchange rates.
In this post, we will specifically explain exchange rates and their influence on the real estate sector. Moreover, it is important to understand that fluctuations in foreign exchange rates are mostly due to different economic factors. Examples of these factors include:
- Monetary policy
- Undercurrents of GDP
- The balance of payments
- Inflation
Consequently, the movements of foreign exchange rates will significantly influence the real estate sector.
Comprehending Exchange Rates
In short, exchange rates refer to the value of one currency against another. In other words, the price of one currency in terms of another. For instance, the cost of the United States Dollar against the Australian Dollar or the Japanese Yen against the South African Rand.
Although it is easy to track the exchange rates day in and day out, their influence on the property market, not immediately evident, represents one the greatest predicaments for investors. This is a consequence of fluctuations in monetary standards based on free-market activities of supply and demand.
The Relation Between the Real Estate Market and Exchange Rates
In terms of the real estate market and exchange rates, there are two key definitions:
- Supply alludes to the property you want to purchase or sell.
- The currencies are the demand in the free market supply-demand relationship.
When the demand for currency goes down and the supply increases due to lower interest, the currency price decreases. And vice versa – when the demand for currency goes up and the supply decreases due to increased interest, the currency price goes up.
A Situation Where a Foreign Currency Grows
In a situation of a growing foreign currency which is followed by falling exchange rates against the investor’s national currency, property maintenance increases in cost and therefore lowers property yields. If this is happening, it is advisable for the real estate owner to sell rather than buy a property.
For example, from 2014 through 2015, the ruble went down by 50 percent against the USD and 60 percent against the euro. Before this occurred, a US$200,000 real estate had a price of 7 million rubles, but after the crash, the same property had a price of 14 million rubles. The devaluation of the ruble had a negative impact on the behavior of Russian real estate investors, resulting in them spending only half of what they spent in 2014 on foreign cash transfers for buying a foreign property.
Managing Foreign Exchange Exposure
The best way to deal with foreign currency risks is to first analyze what exposures exist and which currencies are involved. The support of a foreign exchange expert can make this an easier process. Many investors look for advice from currency specialists just before they need to make a transfer. Although not a bad approach by itself, the issue is that in essence, this leaves real estate investors at the mercy of the market, making them pay the prevailing market rates for their currency.
The analysis should have been completed a long time before that since it will form a base for different strategies that can be implemented, such as purchasing the currency in advance, averaging in, using forward contracts, using limit orders, and other time options. The point of all of the above is to plan well and on time to have more control. In an ideal situation, you would consult a currency expert and talk about the available transfer options as soon as possible.
Forex affiliates, traders, and brokers such as Ever Forex make up a considerable part of international property buyers. They have a significant advantage over other types of overseas property investors because they can closely monitor fluctuations in exchange rates to lessen foreign exchange risks and maximize profits when property trading is in question.
A Situation Where Currency Becomes Stronger
In a situation where the foreign currency in a country you plan to purchase a property strengthens against your currency, it will cost you more to buy real estate in that country. This means that property prices grow while the yields go down. Therefore, the most profitable time to purchase real estate in a foreign country is at the point when your home currency strengthens against that country’s currency.
In case you plan to purchase real estate in a foreign country and spend a lot of time there as well:
- A stronger home currency will decrease your costs of living.
- A weaker home currency will raise your living costs since it buys less of the foreign currency you’re using.
The circumstances are similar for property management costs. In a period when the home currency is strengthening, operating expenses, such as paying for the homeowner association fees, taxes, and utilities, cost less in terms of that currency. However, when the currency is weakening, property management expenses increase in cost.
A Situation Where the Currency Is Devaluating
Such circumstances may create an extraordinary demand or even transform the stage the market is at if foreign investor presence is strong. For instance, in June 2016, after the United Kingdom announced the decision to leave the European Union (EU), the British Pound hit a 31-year low against the dollar. The decline alone increased the purchasing power of individuals with dollar-denominated incomes by 11 percent.
Although, if the property is located in a country with a weak currency, it will pose a risk for international landlords since this reduces rental income as it is converted into the stronger currency. For example, if a US investor has commercial real estate in Australia and the USD/AUD changes from 1.41 AUD/USD to 1.61 AUD/USD, rental income of AUD 100,000 is reduced from 70,770 USD to 60,660 USD.
An undervalued or weak domestic currency benefits mostly foreign buyers since they pay in the stronger foreign currency. It is almost like there is a Black Friday sale, yet only they get the sale price. This encourages foreign tourism, which can boost the economy. But it also attracts foreign purchasers looking to buy cheap assets and outbid domestic buyers for them.
Foreign purchasers can even push up housing prices in countries with weak currencies. Let’s say you’re house hunting, but suddenly you are bidding against people who are receiving an automatic 30 percent discount on the asking price. Even if there isn’t any house hunting, higher housing prices and low supply impact rent as well.
Since exchange rates are unpredictable, it is recommended to diversify investments to secure them from exchange rates. If you do not have the opportunity to simultaneously invest in property in several different countries, you should invest in a country with the currency that constitutes the bulk of your expenses in the medium- to long-term horizon. This will ensure that the foreign exchange risks are kept to a minimum.
This article has been contributed by Amelia Atkins.