Current Interest Rates
Current Interest Rates and Real Estate
Current interest rates are critical in the evaluation and performance of any investment primarily because of their impact on the present value of future cash flows.
What causes interests rates to rise?
“Experts point to four key drivers of changing interest rates: inflation, bond supply, bond demand, and the Federal Reserve. As inflation expectations rise, consumers believe they will lose purchasing power in the future. This leads to increased interest rates to compensate for the perceived loss. Increased supply in the bond markets can also lead to higher rates, as issuers are forced to borrow at higher interest rates based on supply and demand dynamics. Inversely, a decrease in bond demand will lead to higher rates, as issuers will offer investors a higher return in order to raise capital. The Fed attempts to manipulate these drivers by buying and selling assets effectively controlling the market.” (fundraise resources, www.fundraise.com)
How does this impact real estate values?
“When changes in interest rates are viewed as an independent variable (that is, they change while everything else remains constant), their effect on real estate is simple and clear. At the end of the day, the value of any investment is the sum of the future cash flows from that investment, discounted back to present value. As interest rates rise, the value of any future cash flow decreases, which in turn lowers the value of the asset (real estate property). Another way to look at this is that higher interest rates cause investors to demand a higher return, which makes any property less appealing given the return on that specific investment remains unchanged.
However, interest rates never change alone, so it is useless to analyze the potential effects on real estate value without thinking about the other factors that may occur in tandem with changing rates!
When it comes to real estate, the relationship between inflation and rising interest rates becomes more complex. Inflation is often the critical driver of interest rates, and as such the two typically move together. While rising interest rates can reduce the value of future cash-flows, inflation can in turn increase the value of physical property due to the fact that real estate is a hard asset.”(fundraise resources, www.fundrise.com)