What’s the Deal with Interest Rates and how will they affect commercial real estate?

 

Our phones have been ringing off the hook. Our clients and colleges are calling to discuss the impact of rising interest rates on commercial real estate.  It is such a hot topic.  Let us break it down for you.

 

The Federal Reserve just recently increased interest rates by a quarter of a point.  That is the first interest rate hike since 2006.  There is a concern that with the Federal Reserve will further increaser rates in the upcoming year.  These concerns may be valid given the turmoil in the world and the erosion of the stock market following China’s decrease in the amount of GNP.

 

The increase and concern of interest rates will have many effects on real estate as an investment commodity.  Further, the decision to raise rates may be an indication of other economic factors at play, which may also impact commercial real estate.

 

Property owners who have existing loans with low interest rates will benefit in the sale of their investment.  The value may be decreased as a result of the anticipating lower cash flow in regards to all sales in refinancing using new debt, higher rates equal less cash flow.  The amount of the loan may decrease which may increase the amount of equity needed for a transaction.

 

What we need to recognize is that the recent hike is small and the rate remains low.  Note that the quarter-point increase raises the target range to 0.25%-0. 5%.  So while this is not significant, fear for further hikes might be.

 

So, how does all this commercial impact real estate?  Here is our quick overview;

 

  1. A rise in interest rates could drive borrowers to seek refinanciancing now, before rates rise again.
  2. Cost of capital means that the “rental price of money” has gone up.
  3. Higher capital costs could increase default-risks due to more stringent refinance hurdles
  4. Property valuations may also be affected for the worse
  5. Lending institutions may also tighten their standards or loan collateralization.

 

The important thing to remember is that interest rates are still very low today.  However, it is time to reassess and perhaps sell or buy before they go up even higher.