LKR Agent guest post by Jeff Edberg
Since 2008, real estate mortgage interest rates have bottomed out several times as a tool by the Federal Reserve. By lowering interest rates, the Federal Reserve can help provide higher cash flow for real estate investments as less income is used to service loan debt. The Federal Reserve Discount Rate has been zero since 2009, which has proved to be an effective tool for economic recovery. However, lowering this rate leaves the Federal Reserve without further control against a shaky economy.
Federal Reserve Discount Rate Projections
Now that there is some substance to the real estate market from an investment perspective, the Federal Reserve has increased the Discount Rate by a quarter point over the last two years. By the end of 2018, the Discount Rate will be move from 2.25% to 3%. This slow methodical rate increase does two things. First, it gives the Federal Reserve the opportunity to lower the rate in the event of an economic downturn. Second, it slowly raises the mortgage rates that investors pay for loans. At the bottom of the curve, the commercial property mortgage rate was at 3.25% and is now hovering at just under 5%. By the end of 2018, this rate should be at 5.5%.
Why this is important…
This is important because the market tends to respond to this kind of rate increase. The cost of ownership goes up, so profits go down. Therefore, landlords will slowly raise rents to reflect this additional cost, profits will again increase, the cost and hopefully, the value of investment properties will also increase. An increased value in investment properties will help maintain investor equity, protecting them from inflation trends. Historically, in past inflation cycles, it is likely that owning real estate, as well as other hard assets like silver and gold, will profit investors at a greater rate than equity erosion caused by inflation.
It is important to note that I am not an economist. However, I have been watching the commercial real estate market for 41 years and am a keen observer of this phenomenon and find that it has been beneficial for real estate investors. The increase of property due to inflation is also magnified by the leverage a mortgage loan provides investors. For example, if a property inflates in value by 5% and an investor has a 75% loan on said property, the equity increase for the investor is actually 20% due to having only a 25% cash investment in the property.
Buy leased investment real estate to not only maintain the value of your dollars, but to also realize an arbitrage due to the nature of a leveraged investment!
Jeff Edberg, CCIM, SIOR is a real estate Broker Associate with Lepic-Kroeger, Realtors in Iowa City, Iowa and has been practicing professional commercial real estate sales for 41 years.