It was a complicated summer for real estate. Spring ended when COVID was behind us and with hopes that business would be back to normal. And then, in a matter of a few months everything changed. Russia invaded Ukraine and shook the world’s confidence, sending energy prices up. The FED raised interest rates in May and then again in June and again in July and made it clear that it wouldn't stop because inflation was a clear and present danger... China and the US had a standoff in Taiwan, the EC is bracing for high inflation with political right-wing nationalist parties on the rise, and a military conflict between Israel and Iran is already taking place on Syrian ground.
In one of my previous articles, I wrote that every Pandemic ended in war (see here). Unfortunately, I was right. I also hold the opinion that the war in Ukraine will expand to more countries in the region. There’s a famous quote on war: “You know how you get in but don't know how you get out!”.
About the photo: during the Pandemic I grumbled about not being able to maintain my tradition of visiting Greece at least once a year. Well, I made it to Greece this summer and visited Pelion, Mt. Olympus, and Thessaloniki, where the house where my mother grew up in, is still standing. My grandfather who was a Zionist, had the foresight to realize the danger that lay ahead. He left Thessaloniki with his wife and four daughters on the last ship that sailed out before that port was blocked and mined for WW2.
As for the beard, when in Greece, shave like the Greeks do (they don't), or risk being ignored when ordering Ouzo... The beard was shaved off on the last day, in an authentic barbershop that still uses ancient Spartan beard trimming methods… NYC bearded millennials would die for such shave 😊
In 40 Broad, we purchased a 24-room building on Ocean Blvd., Myrtle Beach. The property was used for corporate accommodations, yet it’s in the center of the hotel district of the city, which presented a repositioning opportunity.
In GREI, we signed a contract to sell a 24-unit multifamily in Conyers, in the Atlanta Metropolitan Area.
Atlantic Breeze
Myrtle Beach, SC
Lake View Willows
Conyers, GA
Most investors, especially young ones, don’t realize the effect inflation has on the economy. The FED is determined to fight it and for good reason. As a young adult in Israel, I witnessed hyperinflation at a rate of over 400% and I remember the impact it had on daily life. People kept their money in tangible assets or gold. Not in bank accounts, because the local currency devalued daily. For liquidity, banks had to offer a high interest rate on deposits and charge a higher interest rate on loans. Rates always lagged behind the CPI. The public’s confidence was smashed, and it hurt investments. Since the price of goods went up daily, there was no reason to save, and people spent more. Imported consumer goods were the favorite, which caused the budget deficit to grow at an accelerated rate. To fight this situation, the government had to force painful financial measures for years. Central banks all around the world will do everything to prevent uncontrolled inflation.
Real Estate is directly linked to interest rates and inflation. I’ve added above a chart that shows average US mortgage rates from 1971. You can see the downward slope. This trend fueled real estate prices. You can also see the sharp rise on the right edge. We’re now roughly back to 2008 in terms of mortgage rates. Soon we’ll be in 2007. This means real estate prices aren’t going to rise soon. They are falling.
Yet, real estate is a refuge in inflationary times. How? Well, Income Producing Real Estate yields are linked to income. Income is rent. And rent rises during inflation. The big question is: will rising rents compensate for higher interest and capitalization rates? Without getting into elaborated calculations, rents must rise by more than 40% to keep the value of properties that were purchased in 2021 and to give investors a return that would justify investing in real estate over the alternatives.
Sounds a lot. Well, here’s a graph that shows that the median rent in the US rose by 19.3% year on year at the end of 2021... The trend is expected to continue. Not at the same pace, but still at a high rate. Less people will be able to afford to buy homes because of high mortgage rates, so more people will rent, creating a demand for rental properties, pushing rents up.
On the other hand, rising rents (and rising prices of other essential goods like food and energy) will fuel higher salaries because employees will need a higher pay to meet the increased cost of living and indeed majority of U.S. workers changing jobs are seeing real wage gains. Rising salaries and energy cost will fuel price increase of energy and labor-intensive manufactured goods, and so the spiral goes on and on…
This is the reason that the FED is determined to fight inflation. But this isn’t a textbook demand side inflation. Here price pressures stem from low unemployment and the supply side. The supply of gas and oil is used as a weapon in the current conflict between Russia and the West. Higher energy and food prices will make it impossible to stop inflation quickly and we may witness high inflation and high interest rates for a while. The problem the FED is facing now, is how to prevent Stagflation.
If you’d like to invest in real estate now, keep your powder dry and wait for the winter. Cash buyers will have a great time. If you invested recently, adjust your business plans, and wait until rents rise and interest rates stabilize.
As always, I welcome your emails and comments.
This publication is personal and not for general circulation. It does not form part of any offer or recommendation. It does not take into consideration investment objectives, financial situation or needs of any specific person. Prior to committing to an investment, please seek advice from a licensed professional regarding the suitability of the product for you and read the relevant product offer documents, including the risk disclosures, If you do not wish to seek financial advice, please consider carefully whether the product is suitable for you.
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