Inflation is a-coming. What’s your plan?

33 Replies

So with interest rates sure to rise and inflation well on the way, what’s your strategy? Pay down loans? Save up for the next drop? Just curious. Personally I’ve tried to lock in interest rates as much as possibly and just reinvesting in my current properties. (Remodels, Airbnb’s, etc) Market prices are to the point of no cash flow already so I’ll just wait this one out and get creative on what I own already.

Buy and hold real estate at low interest rates then thank the inflation gods

Keep investing (assuming they're good deals) and be ready to take advantage of the next downturn at a greater level.  

Originally posted by @Russell Brazil :

Buy and hold real estate at low interest rates then thank the inflation gods

 Make appropriate sacrifices at the casino...

Like @Russell Brazil said, inflation helps you when you have debt on a property. Waiting until inflation hits to buy doesn't make sense to me. 

Now if you're talking about a market downturn, that's different. To help prepare for that, I recommend two things. First, don't over leverage. If you can, get 60-65% max financing. You'll need that cushion in case rents drop, vacancies go up, or a combination of both. Second, get long term debt. No more 3-5 year debt. Do 10 year minimum. You don't want to be stuck choosing between selling at a low price or refinancing at a high rate. 

I don't like the idea of sitting on the sideline and waiting. No one knows when a correction will hit, and you could be waiting 5+ years. People were saying in 2016 to wait for the downturn to buy. However, all of those risk takers in 2016 have now completed their reposition and are selling for sizable profits. 

You can still buy now, and hedge your risks by doing what I mentioned above. 

Buy more, invest more and pay down debt.

stock cash for the next opportunity.  If rates rise it should put pressure on values.  You can only afford so much at 5% and even less at 10%.  Prices should fall.  Buy based on the numbers.  I agree with an article I read here that says those A properties that are getting built are going to see the biggest price pressure.  B and C should hold better.

@Kevin Noesner

People who own real assets are just going to get wealthier and we are going to see the 1% grow, and the rest will have problems buying necessities because their paychecks are growing a measly 2%.

Try to lock in rates, and continue to buy RIGHT.  We are buying still at 7 caps with 10% Cash in cash with value add.  Tough to do, but the deals are still out there

Gino

Continuing to rotate out of SFR and into MFR thanks to the 1031 tax gods.. Looking for larger properties at this point. Just keep your focus and execute on your core competencies.

@Kevin Noesner

Freddie is locking in for ten years

So is our community bank

Gino

@Kevin Noesner I don't understand why inflation will rise with an increase in interest rates.

If inflation is too many dollars chasing too few goods then an increase in the prime rate will lead to fewer dollars in the market. They have an inverse relationship.

The inflation worries come from the increase in real wages seen in 2017.  This is seen by many as the final part of recovering from 2008. Will those dollars reach Joe Six pack's disposable income or will needs like house and healthcare eat it up? I have no idea. We know the average American saves less than 2% so if they get the cash, they will spend it.

If you have concerns about inflation, leverage up as much as you can for as long as you can. Buy real assets now and pay them off with inflated funds later on. Though, we have been seeing a long term trend in inflation decreasing, but the recession has skewed the data so reversion to the mean could be coming

Bill F. Thanks for the clarification.

I didn’t intend to imply that one causes the other. However I do think both increased rates and inflation (from increased wages and costs of goods) are in our near future.

I’m with @Sam Grooms and @Caleb Heimsoth to not over leverage right now. And @Kurt Jones has me considering 1031ing some SF into MF!

Originally posted by @Bill F.:

@Kevin Noesner I don't understand why inflation will rise with an increase in interest rates.

If inflation is too many dollars chasing too few goods then an increase in the prime rate will lead to fewer dollars in the market. They have an inverse relationship.

The inflation worries come from the increase in real wages seen in 2017.  This is seen by many as the final part of recovering from 2008. Will those dollars reach Joe Six pack's disposable income or will needs like house and healthcare eat it up? I have no idea. We know the average American saves less than 2% so if they get the cash, they will spend it.

If you have concerns about inflation, leverage up as much as you can for as long as you can. Buy real assets now and pay them off with inflated funds later on. Though, we have been seeing a long term trend in inflation decreasing, but the recession has skewed the data so reversion to the mean could be coming

I know that's what we all learned in our ECON classes back in school. However, historically, the two have tracked each other fairly closely. I think in the very short term, they have an inverse relationship, but over the long term, they move in sync with each other, as the Fed tries to spur or deter inflation.

All the economic indicators are moving similar to pre-1929 meltdown according to the cautious economists like David Rosenberg and legendary investors like Jeremy Grantham. We might still have a quarter left of the large melt-ups that we are seeing now. 

The trigger might be hidden in the commercial RETAIL real-estate (Amazon effect, remember the $190M mall in Pen state that sold for $100), or the student loan debt crisis or retiring baby boomers... 

But people would still need a place to live, and it is sure not going to be the class-A. So, I would think whatever the case may be, sure bet is to put your money in B and C properties and have some reserves for the inevitably cheaper properties soon to hit the market. 

About interest rates, if all this happens do you think the Fed can sustain the uptick? 

@Kevin Noesner Looking to buy land and continue my mobile home investing business. Since I buy in cash, interest rates really don't affect me. Good topic! 

This is one aspect I don't know much about so I didn't know to consider it. I plan to purchase/finance my first triplex within the next 3 months. How will inflation affect me? Will it within 3 months? How can I prepare or adjust if it will?

@Sam Grooms and @Kevin Noesner I think we have diverge a bit in what we are talking about. When I referred to interest rates I meant the Fed Funds Rate, which is a main tool of monetary policy. My bad for not being specific. Your graph shows the 10 Year T-Bill vs inflation and not the fed fund/prime rate. 

There is a difference between the 10 Yr T Bill and the Fed funds/prime rate since the former is market driven and the later is 'set' by the FOMC. Many things can drive the 10 yrs up or down, but only the FOMC can change the Prime Rate. This graph illustrates the relationship:

PCE inflation vs Fed Rate is here. The relationship is a little less neat. 

Though I have found some interesting articles that highlight reasons for higher interest rates to drive up inflation

@Bill F., a couple things there:

Your graph shows the prime rate, not the fed funds rate; these are not the same thing. The prime rate is not set by the FOMC. The FOMC sets the fed funds rate, which is currently 1.5%. Your graph that shows the prime rate is over 4%. 

Going back to the discussion at hand, when an investor talks about interest rates, what do you think is more valuable to use; 10 year treasury, prime, or fed funds rate? As an investor, when I'm talking about interest rates, I'm most likely talking about mortgage rates. So, I'd argue 10 year treasury is more valuable, since that is the best indicator to determine if mortgage rates will rise or fall. Why? Because even though most mortgages are packaged as 30 yr products, the average mortgage is paid off or refinanced within 10 years. So, the 10 yr bond is a great indicator of the direction of interest rates. 

We're going back to the hyperinflation, high growth days of the 1970s and 80s.  Many of you don't know what that's like.  Long-term interest rates will rise rapidly, stock market will soar over a long period, real estate will decline in inflation-adjusted real dollars, rents will rise with wages, and cash flow will become king again.  Stay away from speculative real estate, especially in areas where foreign nationals can easily cash out and put their U.S. dollars in more lucrative asset classes.  Expect homebuyers to finance their purchases with 7, 8, and 9% mortgages again.

Remember we haven't exited the quantitative easing pains of the early part of this decade yet.  The Fed's balance sheet will have to be unwound somehow.  What will that do to the demand for mortgage debt?  

The plan should be to emphasize cash flow and deemphasize appreciation. 

@Sam Grooms  The fed rate and prime rate are HIGHLY correlated. Each bank sets its own prime rate, but the average rate is usually around 300 basis points above the Fed Funds rate. For this argument they are near perfect substitutes and the trends in the graph still hold true; the fed fund rate and 10 yr don't have a strong link so your original graph showing rates tracking inflation is not applicable. 

I concur with your point about mortgages and the 10 yr with the caveat that the relationship applies to fixed mortgages and not variable rates, since those are mainly pegged to Prime or the LIBOR. However, when you talk interest rates in regard to inflation the 10 yr is not as valuable as the Prime/fed funds, as I said in response to your previous post. 

Based on the original question, if you have concerns about either inflation or a rise in interest rates you should leverage up for the longest term possible. However, I wouldn't do that because it puts the cart before the horse and ignores the specifics of our individual markets. 

None of us are Macro traders so worrying about rates vs inflation ignores how we all plan on making money; through the four wealth generators of REI. The ten year yield has has been tracking downwards since the 1980s so it is highly unlikely we will see 18% mortgage rates. and RE is a great hedge against inflation. The sky is not falling.

@James Kendrick what indicators are you seeing that suggest to you we are headed towards stagflation?

Many of us invest in individual properties, not national markets.  Deal flow is hard to come by but there are still investment opportunities out there.  2009-2013 was the exception, not the norm.

Actually, if I may quote Peter Schiff, whose Podcasts I routinely listen to, inflation has already occurred.  Inflation is not rising prices.  Inflation is an increase in the  money supply, which the fed has already done, pumping more than 4 trillion dollars into the equity markets, and continuous reinvesting of revenue from those bonds, instead of buying down.  The predictions of 7, 8 and 9% mortgages in my opinion, are extremely unlikely.  What is likely is the dollar will lose value compared to other currencies or hard assets, but it will be gradual.   

Still, the rise in the 10 year bond is a real thing, and will impact our borrowing rates in the near term.  Some may say this the rising cost of borrowing money will harm the value of our properties.  Well, yes and no.  I doubt it will harm multi-unit properties.  The key in any situation, whether in rising prices, or in rising mortgage rates, as @Gino Barbaro so well stated, is to buy it right.  

If the market will not give you a good interest rate, there are other options to get a good interest rate.  If a seller of a 40 unit apartment wants x amount of $$ for the building, and I'm wrong, and market rates are 9%, then that seller  may be willing to be your bank, in order to get the price he wants.   He/she may be willing to carry you at 5% to get his price.  The key is always to buy it right.

Who knows.  Every dip people call for this.  Just buy right and have low leverage.

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