How Does Interest Rate Affect Real Estate? Common Concerns Answered
Many real estate investors are curious about how interest rates can affect real estate for 2022. As the economy heals from the pandemic, rates will begin to move higher as the economy bounces back to pre-pandemic conditions. This leaves investors to question whether the commercial or residential real estate market will be impacted by these rising rates.
While this may seem concerning, real estate investors should feel at ease knowing the real estate market is forecasted to remain favorable for them in the new year. But it’s important to always keep an eye out on how fluctuating interest rates can impact your investment properties.
Let’s look at the biggest interest rate factors that can affect real estate.
Cost of Capital
When interest rates rise or fall, the cost of mortgage capital on a real estate property can be profoundly impacted. High interest rates can cause mortgage debt to be more expansive and impact capitalization rates (cap rates). For investors wondering what a cap rate is, it’s simply a metric used to forecast the ROI on a real estate property. Meaning as cap rates rise, real estate valuations fall and when cap rates are decreasing, real estate valuations are increasing.
Economic growth can have a profound impact on interest rates and how they affect real estate. This year, we saw the economy rebounding from the pandemic with more businesses generating activity nationwide and homebuyers flooding the residential real estate market trying to purchase homes with low interest rates. This resulted in the demand for houses and apartments being higher than the supply available causing bidding wars to breakout.
The extensive growth over the past year will most likely fall over into 2022 pushing inflation and interest rates to rise. For those in the commercial real estate sector, this can be a positive investment opportunity for you to monitor. When the demand for commercial space is rising, there will be higher occupancy rates, earnings, and property valuations. Earnings off these properties will offset any pull from increasing interest rates.
Now, if the Federal Reserve decides to lower rising interest rates by influencing the money supply, more individuals will be able to borrow money and spend it. This will increase the demand for properties and drive-up prices to be more competitive. However, this scenario is unlikely since the Fed is expecting the current high inflation market to create positive price growth over a longer period. Investors will just have to wait and hope interest rates don’t rise quicker than expected.
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