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Bogleheads
Investing Advice Inspired by Jack Bogle
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dwbogle
Joined: 24 Jul 2007
Posts: 121
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 Posted: Mon Mar 01, 2010 1:27 pm Post subject: Rising Interest Rates - Real Estate Prices - Rent Prices |
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I know this is hard to know for sure but I am looking for the general rule of thumb.
Assume interest rates start rising in the near future.
I understand that real estate prices will go down.
But do rent prices go down also?
Assume this is the current situation:
Rent: $625/mo $7,500/yr
Purchase: $75,000
Gross Return: 10%
Then Interest rates go up:
Rent: $625/mo $7,500/yr
Purchase: $65,000
Gross Return: 11.5%
At what point will/should rent prices go down?
How much will the purchase price fall with every 1% increase in the interest rate? |
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hollowcave2
Joined: 01 Mar 2007
Posts: 1037
Location: Sacramento, CA
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| Posted: Mon Mar 01, 2010 1:44 pm Post subject: disagree |
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I disagree with this premise:
| Quote: | Assume interest rates start rising in the near future.
I understand that real estate prices will go down.
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There's no reason that real estate prices won't move upward for awhile in the early phase of rising interest rates and a recovering economy.
Can you give us some more details of your plans with the rental? |
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dwbogle
Joined: 24 Jul 2007
Posts: 121
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| Posted: Mon Mar 01, 2010 2:23 pm Post subject: Re: disagree |
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| hollowcave2 wrote: | I disagree with this premise:
There's no reason that real estate prices won't move upward for awhile in the early phase of rising interest rates and a recovering economy.
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I know that is why I said I was looking for a general rule of thumb. When interest rates rise bond prices go down and real estate prices go down as the rule of thumb.
My main question was what can I expect to happen to the rent prices?
What happened to rent prices in the 80s when interest rates increased? |
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mtl325
Joined: 25 Nov 2008
Posts: 239
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| Posted: Mon Mar 01, 2010 2:41 pm Post subject: Re: Rising Interest Rates - Real Estate Prices - Rent Prices |
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| dwbogle wrote: |
Assume interest rates start rising in the near future.
I understand that real estate prices will go down.
But do rent prices go down also?
[. . . .]
How much will the purchase price fall with every 1% increase in the interest rate? |
I don't believe it is safe to forecast any sort of reduction in home prices in comparison to interest rates. Saint Jack blows the interest rate - P/E correlation out of the water:
"There’s a lot of reversion to the mean (RTM) in price-earnings ratios, rarely more so than in the decade of the 1980s that immediately followed. Then, the P/E more than doubled to 15 times, a positive speculative return of 7.7%, which, when added to the 9.6% investment return, gave us our 17.3% total market return for the 1980s. Amazingly, as the 1990s began, the market was about to provide almost the identical performance, and with almost the identical ingredients—investment return for the decade, 10.6%; speculative return, 7.2%; total return, 17.8%. But after two consecutive decades of returns unparalleled in all financial history, driven by a 4½-fold increase in the RTM-sensitive P/E ratio to nearly 31 times as 1999 ended, we shouldn’t have been surprised that the outlook was for far lower returns during the coming decade ending in 2009.
This simple reliance on the P/E ratio of course, ignores the level of interest rates. While its alleged, that, say, lower rates justify lower earnings yields (i.e., higher P/Es), the long-term annual correlation (since 1926) is a rather pathetic 0.004. While on a decade-long basis the correlation (actually, the R-squared) rises to 0.36, the range is astonishing—more than 0.90 in the decades ending in the early 1990s, below 0.20 in the eleven decades ending from 1966 through 1976, and little above zero in almost 15 periods. This erratic relationship persuades me to leave well enough alone and makes no adjustment for interest rates."
http://www.vanguard.com/bogle_site/sp20030605.html
The public equity market has a significant leverage factor built in. Unleveraged buyers will, in the long run, keep the RE market at reasonable levels - on par with RE's risk profile. The result isn't necessarily prices down, the result is ownership % down as more significant down payments are necessary to make the monthly.
My father's rule of thumb (and my father's father's rule) was 1% of asset value per month in rents when occupied. So after the tax wash on depreciation, vanancy, mait, ect - around 9-10% dividend plus the RFR for capital appreciation. |
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zeugmite
Joined: 23 Jul 2008
Posts: 553
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| Posted: Mon Mar 01, 2010 9:59 pm Post subject: Re: disagree |
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| dwbogle wrote: | | hollowcave2 wrote: | I disagree with this premise:
There's no reason that real estate prices won't move upward for awhile in the early phase of rising interest rates and a recovering economy.
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I know that is why I said I was looking for a general rule of thumb. When interest rates rise bond prices go down and real estate prices go down as the rule of thumb.
My main question was what can I expect to happen to the rent prices?
What happened to rent prices in the 80s when interest rates increased? |
In theory, the reason property prices go down is so the stream of rents on the property matches the rising interest rate, so there is no reason intrinsically for rent prices to rise. But all things being dynamic, supply and demand for housing may change in a rising interest rate environment. |
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grayfox
Joined: 15 Sep 2007
Posts: 1898
Location: Anytown, USA
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| Posted: Mon Mar 01, 2010 11:00 pm Post subject: Re: Rising Interest Rates - Real Estate Prices - Rent Prices |
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| dwbogle wrote: | I know this is hard to know for sure but I am looking for the general rule of thumb.
Assume interest rates start rising in the near future.
I understand that real estate prices will go down.
But do rent prices go down also?
Assume this is the current situation:
Rent: $625/mo $7,500/yr
Purchase: $75,000
Gross Return: 10%
Then Interest rates go up:
Rent: $625/mo $7,500/yr
Purchase: $65,000
Gross Return: 11.5%
At what point will/should rent prices go down?
How much will the purchase price fall with every 1% increase in the interest rate? |
Basically people will borrow as much money as the bank is willing to lend them. This was demonstrated in 2003-2007. So for instance if interest rates go down, then if the bank qualifies them for a larger loan they are willing to pay more for houses. So the prices of houses rise.
The reverse should also be true. If rates rise, then the bank will lend you less money so you can only bid less for the house. So house prices should fall. But I think house prices are sticky, owners just won't sell for a while. They hold on for months or years, but eventually people are forced to sell for whatever reason and prices should come down.
Rents, like every price, are driven by supply and demand. The demand for some quantity of rental units at a given price is going to depend on the number of people with income at that income level in your area. The supply is how many units are for rent.
What we are seeing is increased supply of rental units because people can't sell their home so they rent it out. But the rental demand is off also because of so many unemployed people that just can't afford to pay rent so they move back home or rent one room with roommates.
I can see where higher mortgage interest rates will mean more unsold homes and condos, many of which are empty, that are turned into rental units, thus increasing the supply and driving down the price. |
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Fbone
Joined: 20 Jun 2009
Posts: 548
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| Posted: Tue Mar 02, 2010 2:55 am Post subject: |
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I believe there are more factors involved in real estate than just interest rates and prices.
Location, location, location
Supply and demand of affordable housing
Job location and commute
Population growth
Cultural differences and priorities
Landlord/tenant laws
Just to name a few. |
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