Low Interest Rates vs. Possible Price Declines

10 Replies

With rates set to rise eventually (though I have thought that for years) I am interested in the opinion of investors regarding the trade-off between being able to buy at the extremely low rates vs. the strong possibility that the negative relationship between rates and prices will push down asset prices.

In other words today you can buy at strong returns in many markets on a rental basis partially because rates are so low. However, as rates rise fewer natural demand homebuyers (i.e. not investors) will be able to afford higher prices thus pushing down pricing. So does the probable falling prices offset the strong cash on cash returns that an investor can get today on a levered investment?

On the flip side, B or C properties that are favored by investors could see higher rents that landlords need to make a purchase thus pushing up rents and increasing COC returns even if appriciation is muted.

@Charles Worth Thanks for asking this because it is one of those 'analysis paralysis' things for me... Are you talking SFH or MF?

I guess if I want to buy-and-hold I have to think in the longer term, with the possibility certainty of rates increasing. Yes, if cash is flowing on a cheap (today) loan, that's good. But it's not great if you have a SFH with very little appreciation after 10 years because the market has fallen due to rates increasing (or a 'financial crisis' situation). Perhaps a long-term cash-flow deal is the trade-off. But if you have a property CF at 200/mo for 10 years, that's around 24K. What if the property value sinks in that time? Or a big capex hits?

 Curious. how do you factor loan interest write-off and depreciation in your analysis? 

I say 'analysis paralysis' because this makes me think of some stocks I 'chased' in the past, which rarely works out ;) ... like maybe chasing some 'hot' housing markets in parts of the country? (if people are saying something is 'hot' is it already "too late"?)

All that said, is MF a better bet against rising interest rates and hedge against inflation?

I don't try to predict the market.  If it is a good deal today, buy it. 

@Neil Aggarwal  problem is that the analysis being done is based on rents that move and that R&M as well as principal payments on loans means a declining asset could be problematic. It would be one thing to try and predict price appreciation but this is more about the relationships between interest rates and prices and interest rates are almost certain to be higher in 5 years. 

The FED has been talking higher rates for a while. Until we get a stronger economy, a better housing market, etc I doubt they will do much tightening. A 25 basis point jump won't have much effect on the market. Lots of investors are buying today because the deals make sense. They are not going to let long term events affect their actions today. I agree. Furthermore, if you are buying right (below market) you are building in a comfort zone for market movement. Prices will to up and they will decline. You can make money in any market with wise decisions.

@Steven Picker  this may not be a bad thing for buy and hold investors. We have a very strong rental market in SW Florida due in part to rising prices and depleted inventory.

@Charles Worth  I believe you have the wrong relationship of interest rates and prices, it is an inverse relationship, interest rates down, prices go up, the buying power of $1000 a month will get you so much in a house or any commodity, if the cost of that money goes down, prices rise keeping an equilibrium of what can be purchased, cost of money goes up, price goes down.

Don't confuse prices with inflationary aspects, supply and demand with inverse relationships.

Home prices up, rents go up.  

Prices go up, demand goes down.

Supply goes up, demand goes down.

Demand goes up, supply goes down.

Demand goes down, supply goes up.

Demand goes down, prices go down.

Bond prices up, stock prices go down.

Bond prices up, interest rate go up.

Stock price up, bonds down.

Bonds down, interest rate goes down.


@Bill Gulley  Sorry if I was confusing in my statement. I think we are saying the same thing that there is a negative relationship (or an inverse correlation).  However I only have experience with this in markets that are liquid and where the impact can be felt fairly quickly (stock markets, bond markets, currency markets). I do not have as much experience outside of the theory in the housing market where its not as simple because there are a lot of cash buyers, foreclosures, there are other factors at work (ie. inflation of material costs, building costs etc.) and its an illiquid market. Also, it should affect A, B and C/D very differently. 

So the point really was on the one hand you can lock in low rates on say a B class property (say $75K ARV) and lock in rental income at say $2.3K after mortgage payments and reserves (17% COC return before mortgage payments). This sounds great but if the same house declines by 5% in value that year you lose $3.75K or a net loss on paper of $1.4K. This loss is only paper for a while but could be fairly long term if rates are higher in five years (very likely) and incomes are stagnating as they have for most of the past 5 years.


@John Thedford  rates have already started to rise but you are no doubt correct in the next year or so it is doubtful we would see any large-scale rise in rates even more so now that the dollar is in favor again and other markets are having big problems. 

However, over the next five years or so rates being higher is very likely. 

Charles, RE is a non liquid asset and unique, to begin understanding RE begin with what makes RE valuable, most don't understand "DUST" but that is the function of value and to understanding market influences. When folks jump in at the middle and assume the obvious, they miss the fundamentals, some never understand running on auto pilot and never really getting it. Begin at the beginning. :)  

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