The Impact Fed’s Control of Interest Rates Has on Real Estate Investors

Disclaimer: this article is not intended as investment or financial advice.

Author: James P. Schlimmer, CEO, Equity Real Estate Services Twitter: @jamespschlimmer

It’s important to consider the exact time of this article’s publication: Today is September 20, 2022, and it is 1:14pm. Tomorrow, the Federal Reserve is expected to announce a 75bps (Basis Points) rate hike. The S&P 500 is currently down another 1.31%, which shows that investors are beginning to factor in tomorrow’s news. (Update: The Fed officially announced this75 bps increase at 2pm on 9/21/2022)

For real estate investors, a logical question(s) should be, “What does this mean for Real Estate Investors? What does this mean for Buyers, Sellers, and Renters? What does this mean for the Economy?”

Understanding What the Fed Rate is and Why it Matters.

The Federal Funds Rate is the interest rate set by the Federal Open Market Committee. It sets the target rate for which commercial banks borrow and lend their nightly excess reserves. This committee is usually referred to as “The Fed,” and its chairman Jerome Powell leads this organization. The Fed Rate and its movement is essentially the only tool the Fed has to expand or contract our economy. The Fed will increase rates to fight inflation and slow down the economy while lowering rates to promote consumer spending and expand the economy. You can read more on the topic of the Fed Rate Here.

The current Fed Rate in real-time is 2.4%. We expect a 75bps increase tomorrow, which means the Fed Rate is expected to be 3.1%. Some analysts predict the Fed will continue to raise until we hit 4.26% in 2023.

How the Fed Rate Affects the Real Estate Market

The obvious answer is that the Fed Rate has an absolute influence on mortgage rates. This happens because the 30-year fixed mortgage rate is based off the long-term bond market, which is immediately impacted by the Fed raising or lowering the Fed Rate. When Real Estate Buyers borrow money for a real estate purchase, they borrow at a specific interest rate. That interest rate affects their monthly repayment obligations.

For a simple cause and effect relationship, the higher the Fed Rate, the higher the 30-year mortgage rate becomes, creating higher monthly repayment amounts and less Buyers who qualify for mortgages. You can track current 30-year fixed mortgage rates here using IRA Title Pro’s Data Center.

30 Year Fixed Mortgage Average graph

Less Buyers = Seller Lowering Their Prices = More Listing Inventory

What this Means for Real Estate Investors

Home sales are fueled by jobs and buyer confidence. You can track Existing Home Sales Here.

Less Buyers = More Renters, since people will always need a place to live.

“18% of millennial renters say they plan to rent forever” (up from 11% in 2018), according to research from Apartment List.

An increasing Fed Rate usually means an increase in the Unemployment Rate.

A higher Unemployment Rate could mean investors see an increase in monthly rental delinquencies, so investors should begin planning for that possible outcome immediately.

There is a very strong argument that the present macro / micro economic conditions make Real Estate Investing the absolute safest and best hedge against equities, bonds, and commodities, which are all extremely volatile right now (let’s not forget the war in Ukraine) and require significant education to fully comprehend and manage effectively.

Overall Takeaway:

Tomorrow, the Fed should announce the increase. The markets will respond accordingly, probably lowering many investors’ IRA / 401ks that are heavy on equity investments, like stocks.

More than likely, your tenant will still make October’s rental payment at the agreed upon rate. In the event the economy tumbles and portfolios see 20-35% losses, a real estate investor can simply modify the rental agreement with the tenant because again, people need a place to live.

Final Thoughts:

I know housing inventory numbers are still at record lows, and residential home building is beginning to stall, both of which promote stable or increasing home price valuations. However, I believe the housing market is correcting from an absolute insane 2021. I also believe unemployment will increase (I already see the layoffs happening in our industry) and predict we will see lower interest rate options from lenders to fuel an increase in mortgage activity (think ARM loans and adjustable-rate mortgages). I’m convinced we will see more mortgage defaults, all of which creates optimal conditions for real estate investors who have been on the sidelines for the past 3 years.

I am confident in these predictions so much so that IRA Title Pro will soon be producing a monthly foreclosure report for investors to begin tracking what is happening in their states or zip codes.

Stay tuned for more info.