Home Perspectives Realty Views: What Do Lower Interest Rates Mean?

Realty Views: What Do Lower Interest Rates Mean?

The Federal Reserve dropped its federal funds rate, which dictates interest rates, late last month for the first time in over a decade, thereby lowering borrowing costs on a host of things; but the primary beneficiary looks to be real estate. The .25% rate cut that will lower the prime to a target of 2-2.5% follows four rate hikes last year and nine increases since 2015, after years of decreases since 2008 and the beginning of the recession.

What this decrease means to the general economy and to the real estate sector is a point of contention among economists, industry professionals and, of course, bankers. The consensus is that it could spur greater activity in development, home buying activity and commercial transactions. But some wonder if it will do much at all, given the realities of affordability and inventory shortages.

Mortgage originations are up as Wells Fargo and JP Morgan have recorded an uptick in second quarter profits, so any lowering of rates is sure to boost that trend. But labor and land costs are more expensive, and the lack of homes for sale has put a damper on any growth in that segment of the market.

Some believe that lower rates will encourage the first-time buying segment of the market by providing an opportunity to enter the market, especially as rents are increasingly unaffordable in many areas and a purchase is a better value proposition.

The recent yield on government bonds has been dropping, and mortgage rates have slid down to the 3.75% level. Some analysts point to that, and the fact that existing homes sales through June are down 2% from last year, as reason to be cautious that the Fed’s action will spur more homebuying. New home sales are considerably below their recent peak in late 2017 and new home construction has declined for six straight quarters, largely because sales and profit margins are down for affordable housing and lower cost homes.

“At this point, [interest rate cuts] don’t matter as much as people think,” John Sim, an analyst who covers housing and the mortgage market for JPMorgan Chase, recently told The New York Times for an article on mortgage rates. “Even at this current level of rates, it’s pretty unaffordable to most renters.”

The current economic expansion that began in 2009 has seen home prices rise by nearly 60%, but the median weekly earnings of Americans has increased by only 24%. Also, before the housing bubble burst in 2008, the homeownership rate was 69% while today it is just 64%.

“In general, what we’ve had is just not enough lower-priced homes and sort of a vicious cycle, where that limited supply has continued pushing prices up,” Jody Shenn, an analyst at credit rating firm Moody’s, told the New York Times.

There is less profit for builders in lower-end homes, and while a lower borrowing rate for builders could help to a point, it remains to be seen if this is enough to spur more building in the entry level housing market.

Some in banking said there could be an increase in refinance activity from lower mortgage rates, although a rush to refi is probably out of the question unless the Fed initiates a series of rate cuts, which seems unlikely at this point.

It appears that the Fed’s rate reduction will have some impact versus doing nothing. But most industry experts believe nothing earth-shattering will arise from this latest rate cut because there are too many other factors in play that impact housing and real estate in general.

Terry Ross, the broker-owner of TR Properties, will answer any questions about today’s real estate market. E-mail questions to Realty Views at terryross1@cs.com or call (949) 457-4922.

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