If the Fed cuts interest rates for the first time since 2008, it could spur more borrowing
What kind of difference could a quarter of a point make?
Plenty, according to some real estate developers and industry pros who say the Federal Reserve’s expected interest rate cut on Wednesday — which would be the first since 2008 — will make deals more profitable by lowering borrowing costs.
Commercial developers will find it easier to finance projects, but the biggest gain will be in single-family homes, according to Noah Breakstone, a Fort Lauderdale, Florida-based land investor and developer.
Breakstone said a Fed rate cut — even by as little as a quarter of a percentage point as expected — will lead to the increase in the overall supply of single-family homes across the country. It would come at a time when many states, including California, are mired in housing shortages. The reason? Land purchases and financing will be cheaper for homebuilders, which will have a cascade effect for consumers, said Breakstoen, with BTI Partners.
The interest rate cut would also mark a shift from the Fed’s policy over the last few years. Last year, the board raised rates four times — and has done so a total of nine times since December 2015. The Fed began raising rates in 2015 after years of keeping rates low following the recession to boost the economy. But as the economy improved, the Fed raised rates.
After the Fed’s June meeting in which it held rates steady amid a weakening housing market, the expectation was the benchmark rate would hold at between 2.25 and 2.5 percent through the end of the year.
At the time, a potential rate cut even sparked concern of a possible economic slowdown. But President Trump has kept up his criticism of the Fed and Chairman Jerome Powell, cajoling the board to lower interest rates by as much as 1 percent to spur growth.
And with interest rates already low, mortgage originations are up, with some of the largest banks like Wells Fargo and JPMorgn having recorded upticks in second-quarter profits.
Still, over the past few years, construction and labor costs have grown significantly, cutting into profit margins for developers. In major markets like New York, Los Angeles, Chicago and Miami, these rising construction costs come at a time when land costs are also soaring, making it difficult for some deals to pencil out. Sporadic trade wars under President Trump has also caused supply problems.
The housing market has also slowed as home prices have risen faster than income levels. Homebuilders also claim that mounting labor and supply costs have made it difficult to build single-family homes at affordable prices.
As a result, home price growth is falling. On Tuesday, S&P CoreLogic released the Case-Shiller U.S. National Home Price Index which showed that home price growth slowed to 3.4 percent in May on a yearly basis, down from 3.5 percent in the previous month.
But a rate cut also further erode buyer confidence in the housing market and overall economy, critics say.
“The average consumer might be a little wary of what this signals about future growth,” said Heidi Learner, the chief economist at Savills. “Is now the time to be buying a much larger house or upgrading?”
Breakstone said first time homebuyers, though, might not see falling rates as a signal that the economy is in trouble.
“I don’t know if the first-time homebuyer is contemplating that affect, he said. “Unemployment is low, we are seeing some escalation in wages, and I think that it gives homebuyers confidence.”
Lower interest rates could help buyers at a time when rents continue to rise across the country, since it can make buying a home a better value proposition than renting. The other big impact that lower rates could have is for consumers who are looking to refinance their existing mortgage.
“You will get a nice refinance pop because people who were borrowing a year ago at 4.5 [percent] and above are now likely able to obtain financing for between 3.5 and 3.75 [percent],” said Josh Migdal, of Miami-based law firm Mark Migdal and Hayden. “This should be enough of a spread to drive refinancing volume.”
Commercial developers could also increase their deal volume, as they find it easier to find financing with borrowing costs going down.
David Druey, Southeast Florida regional president for Centennial Bank, said this is especially true for smaller property owners who are more sensitive to these rate changes, and who are looking to take advantage of lower rates.
But he said for his bank, which has become a major construction lender in New York City and South Florida, the move will not have much of an impact on its overall real estate lending.
“If we need a quarter of a point to make the deal work, we are probably not going to make that deal anyway,” Druey said.
Learner of Savills, agreed that a rate cut will not have a significant impact on commercial real estate developers. It could, she said, be a clear signal that overall economic growth is slowing.
“As a developer, do you really want to be borrowing at the top of the cycle?”