What Real Estate Investors Need to Know About Interest Rates Now

The news dropped on Wednesday: the Federal Reserve still isn’t letting up on interest rates. Here’s Backflip’s take on the announcement.

The Fed Announcement

The Federal Reserve is the U.S. central bank whose rate changes affect your loan rates. This week, the Fed had discussed the probability of cutting the benchmark interest rate, which currently sits at 5.25-5.5%—nearly the highest in 23 years. The TLDR; to many people’s disappointment: they did not cut rates, and suggested a rate cut in Q1 of 2024 was unlikely.

The setup for the announcement was pretty interesting. After an unprecedented rate hike cycle and a “higher for longer” mantra from the markets, at the end of 2023, Fed chair Jerome Powell took an optimistic tone during one of his speeches and the market immediately did an about-face and priced in a high likelihood of cuts coming. Stock markets soared and the narrative among REI pundits was ‘Rates are coming down. Yay!’

Sadly, it was wishful thinking. Not only did the Fed hold interest rates steady this week, they indicated it was unlikely they’d cut them through March. With this news, stocks got pummeled, the S&P was down, NASDAQ dropped 220 basis points. So it was all a bit of a rollercoaster.

But what does it all mean for Real Estate investors like you? 

Interest Rates and REIs

Well, higher interest rates can impact on real estate investors in several ways:

Cost of Borrowing:

When interest rates are high, the cost of borrowing increases. Real estate investors may face higher financing rates, reducing their purchasing power.

Property Values:

When interest rates are high, potential buyers stay on the sidelines, decreasing demand, and property values experience downward pressure (that’s not to say they go down). That also means less competition for real estate investors. In particular, homes that might sell as a fixer upper to a homeowner might stay on the market longer and be scooped up by an REI.   

Construction Costs:

High interest rates can also impact building material and costs, from lumber to hired hands.

Refinancing:

Higher interest rates can result in a less attractive long-term DSCR loans. Loan payment costs can start to approach income generated, making the BRRRR strategy, for instance, less attractive. At the same time, the property may not appreciate as fast from the time it was obtained.

Economic Conditions:

High interest rates often indicate positive economic conditions. During periods of economic growth, the Fed keeps interest rates up to prevent inflation. In economic downturns, it lowers rates to stimulate economic activity. Think of it this way, low interest rates are a gas pedal and you don’t have to put your foot down on a good road.

A Couple of Takeaways

As we can see, interest rates help shape the real estate investment landscape. Investors need to consider the prevailing interest rate environment and its potential effects on financing costs, property values, and overall returns. Consider a couple of thoughts on the news from us, one strategic, one tactical:

Strategic – Just because the market has a consensus doesn’t mean it’s right (last month being case in point). Investors need to think for themselves, and frankly the ones that place contrarian bets that turn out to be right often get rewarded the most.

Tactical – If your business plan was counting on rates coming down soon (refinancing into a DSCR loan, for example), you might want to re-evaluate to make sure you can withstand a scenario where rates don’t come down as fast as you were hoping.

Where Backflip Stands

Backflip’s position on this has been one of caution. Says Backflip’s COO Jake Rome: “We weren’t going to be tempted by the herd mentality. Our own 2024 projections incorporated a contingency to ensure that we had sufficient buffer if the popular consensus around quickly dropping rates turned out to be wrong—which apparently it did.

“Our take has been that there was a decent probability the market got ahead of itself with wishful thinking. And while the Fed seems confident they’ll cut rates this year, it just doesn’t seem like they’re in a hurry. So we’re taking the position that we’re not out of the woods yet. 

“Having said that, we’re optimistic about the markets in general, and bullish on the housing market, especially over the medium to long term, and especially at the property price points that our members are executing their business plans.”

In short, we’re with you on this journey. Download the app and see what properties are out there for you.

Disclaimer: This article is for informational purposes only and is not legal, financial or investment advice. To obtain advice tailored to your particular circumstances, you should consult a licensed professional advisor.