Investing in a Time of Uncertainty

When is the right time to Invest? As my coach and mentor Bill Ham says, we only know when the peak (or valley) of the market was, after it has already passed by. Unfortunately, it is not possible to perfectly time the market for entry and exit. There is no shortage of media discussion of inflation and rising interest rates as hot topics. The seemingly ever increasing cost of living cannot be overlooked when considering investing capital as well.

Interest Rates Then, Now, Moving Forward

Recent years have seen record low interest rates and commercial real estate has reacted positively to it. Nationally, CRE has transacted not only record volumes; but, consistently pushed higher prices (compressing cap rates and yields.) Investors and Institutions seeking safe haven for excess cash have been taking advantage of almost free money in order to provide safe returns. 

As of this writing, Fed Chairman Powell increased the federal interest rate 50 basis points (bps) and announced another increase of 50 basis points this year. The question being asked around the industry/market place is: how will this affect CRE and cap rates? 

In short: no one knows. This action and announcement has certainly thrown a wrench into deals close to the closing table and banks across the country began re-trading to higher interest rates. In some cases, interest rates on loans rose as much as 2%. This can have a dramatic effect on returns if a deal is not fundamentally sound. But for those projects that were already priced correctly, this should have minimal effect on those involved. 

Earlier this year, the Fed was only providing guidance of potential increases, and as many as 7. The good news is, with this announcement, the market has clarity on what to expect moving forward. Providing clear guidance on what the market can expect gives the banks an understanding of what the cost of capital will actually be vs. what it is now.

Will this increase yield/increase cap rates?

As of this writing, there has not been much of a shift (disclosure: I focus primarily on the Houston market-however, the firms we transact with are national and have national data.) Common sense says that as the cost of capital rises, prices will be forced to come down. This would normally be true, and certainly it could cause the volume of offers to slow down (as well as seller demands i.e. early Hard Money, etc.) Other market factors come into play however, such as, housing demand/ shortage/pricing as well as overall demand for Multifamily Housing. Another factor to consider is the amount of capital in the market looking for a place to earn yield.

In the past 18-24 months, the US has printed $4 Trillion and other countries have printed $6 Trillion. This is $10 Trillion of excess capital looking for yield. These facts could and likely will keep the market in high demand. 

In terms of Houston as a market, numerous factors make this a capital attraction such as continued job growth and large employers entering into the market further driving population growth. All of these things drive demand for the product.

Effects of Inflation on Assets

Inflation is a big concern right now as well as rising interest rates. But, consider this. Buying ANYTHING now has a timestamp at that date in time. If inflation is 8.5% (likely higher) then inflation will eat the cost of that purchase down over time while the asset appreciates. Example, if you bought a house for $100,000 5 years ago, the balance on that mortgage is accelerating small as the value of the dollar diminishes.  On a Multifamily investment, investors typically see a 14-19%IRR. Compare that to the 4-5% loan rates and it is easy to see why the institutional money is chasing after commercial real estate.

Invest now or wait?

If you are looking for the right TIME to invest, consider this. Historically speaking, interest rates are STILL at an all time low. Without getting into an economical / political discussion, it is difficult to rationalize rates exceeding 6% given the current debt that the US Holds and its inability to pay this debt if interest rates continue to rise. Or, rising interest rates in election years, etc. 

2 surefire ways to lose money is to: sit on the sidelines or, invest in deals with bad fundamentals. 

If the deal has strong fundamentals, it should cash flow in any environment. If the deal requires consistently improving market conditions to perform, this probably is not something to consider putting capital into and may not actually have an end buyer. 

The former of the two is also not advisable in this highly inflationary environment. Savings accounts will lose value because of inflation and it is prudent to find a vehicle to beat inflation and not rely on policy changes or tax code which inevitably will take years to take effect if our fearless leaders are actually making the right decisions. Take control of your own money and do not let your capital escape you. 

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