Update on Interest Rates
As you have likely heard, two weeks ago the Federal Reserve raised rates by 75 bps, making this the fifth rate increase this year in an effort to get inflation under control. Inflation seems to have stabilized but it still isn’t dropping the way the Fed would like to see it. There is talk that there may be another rate hike of 75 bps in November and 50 bps in December to further get the economy back on track. We will be keeping a close eye on key data points over the next few months as we will see two CPI and two employment readings prior to the next Fed meeting which will likely influence what those rate changes actually look like.
Raising interest rates increases the cost of borrowing money for consumers and businesses, therefore slowing down the growth of the economy. The higher the cost of money, the less money that will be circulating through the economy. This is essentially the goal of the Federal Reserve in order to combat the surge in inflation rates that we have seen over the last year or so.
If you notice in the graph below, the consumer price index (CPI) began to really take off when the cost of borrowing money was at an all-time low (that and the enormous amounts of money the federal government injected into the economy). It then started to level out once the Fed increased interest rates and has actually gone down the last two months. We can expect the Fed to slightly oversteer the correction, as it takes time for their rate increases to really show what they’ve done and the fact that they make decisions based on lagging indicators. However, there is a good chance rates can start coming back down once they start to see the correction in inflation that they are aiming for.
What this Means for Investors
How could this impact real estate investments? Operators will need to adjust their underwriting models in order to account for the transitions we are seeing in interest rates and the real estate market. While many investors are at a halt due to fear and uncertainty in the market, some see the potential advantages of investing now by considering what might come in the next year or two. When considering our long-term strategy and goal, we actually believe that now could be one of the best times to acquire properties given the uncertainty in the economy.
While the cost of doing business may be higher today due to a rise in interest rates, this is a great opportunity to take advantage of a lower cost basis for both property and renovations. Property prices have gone down in response to less demand and will likely continue as sellers adjust to meet the market. In this market, investors may be able to take advantage of more negotiating power than they have had in a long time as well as a lower cost basis with the potential to sell or refinance during the next growth cycle.
Investors may also be able to benefit from this shifting market by leveraging the additional pressure on rental rates. An increase in interest rates not only means higher 30-year fixed mortgage rates but also raises lots of fear in potential home buyers due to economic uncertainty. That leads to fewer people purchasing homes compared to a year ago which has added pressure to rental rates. It is likely that we will continue to see an increase in rental rates, especially in a market where affordable housing is already in short supply.
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