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How Interest Rates Can Affect Real Estate Lending Guidelines

The Fed has raised interest rates three times since December 2016. The most recent rate hike took the fed funds rate to 1.25 percent on June 14, 2017. Financial experts expect there to be further rate increases in the next couple of years. So what will these rate increases mean for real estate lending?

How the Fed Fund Rate Impacts the Economy

The short answer is, it’s anyone’s guess. The longer answer requires more explanation. In general, interest rate increases act as a hedge against inflation. They also have direct and indirect impacts on specific economic activities. For instance, short-term interest rates such as credit cards are directly tied to the prime lending rate, which is based on the fed funds rate. Increasing the fed funds rate means that borrowers pay more for the money they receive, so they are less likely to borrow. Interest rate increases slow down short-term lending.

Indirectly, interest rate increases affect the job market. Companies hire fewer people and offer fewer pay increases. That’s because the economy slows down. This in turn could lead to fewer people borrowing money for home purchases.

Bankrate.com highlights seven ways the fed funds rate impact the economy.

What Interest Rate Increases Do to Real Estate Lending

The fed funds rate has very little impact on mortgage lending. Because of that, it’s difficult to predict how real estate markets will respond to interest rate increases. Other factors that can influence real estate lending guidelines include:

    • Real estate prices
    • Whether more people are buying or renting
    • How much real estate is available on the market versus the demand for it
    • Market liquidity
    • Competition in the lending market
    • Regulatory influences

In other words, even if real estate prices and real estate loan terms respond positively to interest rate hikes, other factors could put a damper on real estate and cause investors to look elsewhere for returns.

Just before the subprime mortgage crisis, the Fed raised interest rates more than a dozen times in two years and real estate mortgage rates fell. After the Fed’s rate hike in December 2016, however, mortgage rates went up. That shows that interest rate increases are unpredictable.

 Why I’m Optimistic About Real Estate Lending

I believe there are a number of reasons to be optimistic about the future of real estate lending. First, while the Fed may be raising interest rates, those interest rate increases are gradual and moderate. Each rate increase in the past couple of years has been only for a quarter percentage point. That means the impact on the economy, while real, is negligible. Secondly, while U.S. housing starts are down, multifamily real estate is doing quite well. This can be attributed to millennials, the largest living generation of potential real estate home buyers, are renting longer and putting off big life decisions like marriage and home purchasing until they are older. House flipping is also on the rise.

Because of the diversity of real estate investing opportunities, it is likely that some form of real estate lending will always be profitable regardless of interest rates. If home buying is in decline, rentals are likely on the upswing. That means more lending opportunities for multifamily properties. If residential is down, commercial or industrial real estate may be the place to look for opportunities. In other words, while interest rates might affect real estate lending indirectly on some level, overall, the impact on real estate lending across the board is going to vary.

The current market for real estate lending is looking good. One reason it’s looking so well is because marketplace lending platforms like Sharestates offer investors opportunities to realize a short-term return on a solid investment and provide real estate developers with capital to see their projects through to the end. The JOBS Act of 2012 has created real estate lending opportunities that didn’t exist just a few years ago. Each platform sets its own lending guidelines based on several factors, which may or may not include the fed funds rate.

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