Dave Friedman is Co-Founder and CEO of Knox Financial, the smart and frictionless way to turn a home into an investment property.
News coming out of the Federal Reserve often goes pretty much unnoticed to everyone except professionals in economics, finance or real estate. As everyday Americans begin to consider how to plan for their financial futures in 2021 and beyond, a couple of recent moves at the Fed are worth a closer look.
First, the Fed told us it was “not even thinking about thinking about raising rates.” Then, in September the Fed announced a near-zero policy through the end of 2023. The reason for this, it cites, is a goal of lowering unemployment. The Fed’s mission is to support full employment while controlling inflation. With the official U.S. unemployment tally coming in at more than 10 million (and some estimates as high as 30 million), the Fed has decided to prioritize job growth over inflation risk.
The scale and length of this commitment present the biggest real estate investing opportunity of our lifetime.
Since the Fed funds rate plays a significant role in setting mortgage interest rates, the near-zero interest policy is paving the way for low mortgage rates for both primary residences that people live in and residential investment properties as well. These low mortgage interest rates are driving up home prices. After all, if you’re looking to buy a home in 2021, lower interest rates can help you afford a more expensive home. This means buyers are bidding more for houses, which drives up housing prices. Sure enough, average home prices across the U.S. are already seeing significant increases, which should continue in the age of record-low mortgage rates.
Increasing home prices from growing demand sets the stage for promising investment property opportunities. A second factor to consider is the Fed’s nearly subterranean interest rates dragging down all other bond yields. This motivates more people to put their money into investment properties.
Here’s why: Treasury bills are bonds. All other bond yields index, in some way, to the Fed funds rate that treasury bills pay. So, when the Fed funds rate fell by 2% overnight in March, so did every other bond yield in the market. For example, if you bought a $100,000 bond and it paid 4% interest, you were making $4,000 per year and you might have been happy about that. If that bond is now paying 2% interest or $2,000 per year, you might decide to look for somewhere else to park your cash.
Residential real estate is that alternative.
Let’s say you can take that same $100,000 and buy a rental property which, when all is said and done, nets you even $250 per month, you’re bringing in $3,000 per year in cashflow alone. Assuming the property also increases in value by 3% per year on average, which is a conservative estimate, you’re looking at a return of 6% annually. That’s way better than the 2% you were making from the bond.
Sure, the bond might have been more liquid, but does a liquidity premium equal a shrunken return to the tune of one third the alternative? Probably not.
It may sound like a cliché, but I believe an investment opportunity like this has truly never been seen before. Low interest rates are causing double upward pressure on income investment prices, and this trend shows no signs of stopping. For investors interested in the category, the prolonged low-interest-rate environment presents an outstanding opportunity to generate long-term cash flow and value. Smart investors will purchase residential properties and hold onto their low-rate mortgages until term, knowing that they’re unlikely to see such cheap money again.
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