Property prices don’t just rise by themselves. A number of factors cause property prices to increase, and it’s important to understand what these factors are and how you can use this knowledge to your advantage.

Understanding and analysing property makes it easier to invest intelligently and with confidence. You need to be thinking about the short term, whilst also thinking about the long term.

So, why do property prices rise? How does it work?

It’s three basic principles:

1. Supply and demand
2. Credit
3. Sentiment

And that’s it. Let’s delve a bit deeper.

Supply and demand

Supply and demand is a key reason why property prices rise. In the UK, there’s famously not been enough houses built to keep up with demand – often coming well below the quota needed per year, and this problem is only compounding.

Land across many parts of the UK is limited, which only heightens the demand.

When demand is high, competition gets fierce and prices get higher. It’s that simple.

But when demand is low – for example when we have an economic downturn and credit is difficult to get – prices drop, because the demand just isn’t there.

Credit

It might seem bizarre to think credit is one reason why property prices rise. But when credit is closely linked to property, by way of a mortgage, it’s easy to see how this would be a factor.

Property prices struggled so much during the credit crunch because banks were cautious, criteria was tightened and lending became expensive. A combination of all this made getting a mortgage incredibly difficult.

Cheaper credit supports house price growth. When borrowing is cheap, people are more inclined to buy – which pushes house prices up.

Sentiment

How people are feeling about the economy is often overlooked as a key reason why property prices rise.

If people are feeling negative, the market ends up stagnant or the demand drops entirely. People hate the thought of making a loss on property – even when, most likely, this is a paper loss and people aren’t thinking about the long term.

But most people don’t care about the long term and that’s why sentiment is so important. It’s what’s happening now that determines whether people are feeling bullish about the market or whether they’re feeling negative.

Sentiment drives desire – and desire drives action. When sentiment is positive, action is taken – and this is where house prices increase due to a hive of activity.

Remember: All of these factors are in play with one another, all of the time

What else is worth considering?

As always, the 18 year property cycle is really important here – check out our course on the 18 year property cycle here. Knowing where we’re at in the cycle right now can help you make wise property investment decisions.

Rents and wages are important too

Rents can only go up if wages are going up. When wages go up, rents can go up, which means that investors and owner-occupiers alike are willing to pay more.

So how does this influence what you should be looking for? Look at potential for local wage growth, investments in infrastructure, or a new employer moving into an area – these are the kind of factors that will push up both property values and rents, and attract more investors to the market.

Once you understand all of this, it helps explain a lot

It explains why London was one of the strongest performers for price growth and is now one of the worst. Why? Because it reached a point where expectations couldn’t be more bullish, sentiment couldn’t be better, rents were stretched in relation to income – simply put, there was nowhere left to go.

It helps explain why even though yields are high in the North East, we aren’t too excited about that area right now. Why? One reason is because not enough jobs are being created here, so it seems unlikely that wages will grow and push up rents. The sentiment isn’t as promising as it should be. But that could all change.

It helps explain why we’re so excited about the North West – rents are low compared to incomes, those incomes are growing and jobs are being created. Because those jobs are being created – all of that lovely inward investment – there’s a non-stop stream of good sentiment about the North West.

Now, in five years’ time, many of the situations we’re describing may have changed. But the principles won’t have. Use these principles to make confident, intelligent investment choices.

Even if you get it wrong, the long term trends will look after you if you understand the fundamentals.

These are the reasons why property prices rise.