Back in April I attended the Fisher Center Real estate conference in SF held 2x per year at the palace hotel.
The key note speaker is Ken Rosen who is a well-known economist who is a well sought after speaker around the world according to the moderator of the event.
His insight to the macro economic variables that drive the real estate industry are well documented and I have over the years of this conference learned to get there on time because gives his presentation 1st and its not to be missed.
I recently received the audio transcript of the conference and have compiled some of his key points which are relevant to the multi-family housing industry and especially the SF market.
The relevant topics were and continue to be job creation and the cost of money. Ie employment and interest rates.
The fed chairman BB has promised to keep interest rates low for the duration of his tenure which expires at the end of the year roughly. His successor will likely be a Janet Yella from UCB, who ostensibly shares the similar platform but may be compelled to act differently at that time due to the economic factors at that moment in time.
Making economic predictions is somewhat like looking at crystal ball but mind you this speech was given in late April. As you likely know, as the Treasury Bond market moves so do residential mortgage rates. At that time Mr. Rosen predicted that the 10 year treasury yield would be at 5% in 3 years. Its was 1.68% at the time of the speech and currently the 10 yr. is at 2.90% nearly doubling in the last 3 months! This is the highest level since June 2011 and will likely break into the 3% threshold in the next month.
If you were fortunate to refinance or purchase prior to that then you effectively say that you nailed the bottom.
Because of QE3, the fed has been buying $85billion/month in residential mortgage back securities to artificially keep interest rates down to propel the housing recovery and keep people buying houses. This has worked effectively in the short term but he predict the Fed will lose 1 trillion when these bonds are eventually sold.
Your relevant financial point was that the Fed will raise the short rate to 4% when unemployment reaches 5.5%. Currently national unemployment rate is it 7.6; California is roughly 9.2% which is hard to fathom given that in San Francisco we enjoy a robust 6.2% jobless rate which appears to be dropping every day.
Rosen believes that the unemployment rate will actually recover faster than what the Fed is predicting and that will drive the interest rate higher, quicker than expected. This seems to have already come to fruition in that the 10-year yield had nearly doubled in nearly 3.5 months. In San Francisco we have been the beneficiaries of strong job market in that there are young people here with strong incomes willing to pay higher rents driving an inventory starved market to new heights… this is now approaching an affordability barrier and further 2x digit rental rate increase should not be expected. On jobs nationally, the great recession resulted in a loss of eight million jobs of which 6.5 million have been replenished. Looking forward, the early retirement of people over 50 means that continued employment numbers will hasten the goals set by the fed relative to interest rate increase.
So, what does it really mean to us? We all know that as interest rates increase, asset values will decrease, and by that I mean across all categories. Five weeks ago many local lenders we’re still making seven year fixed rate loans under four percent. I don’t think that that exist anymore. Perhaps the next speaker will have some good news on that front.
When the cost of money increases this will drive cap rates upward… which means that if you do nothing to your apartment buildings structurally or increase your revenue stream; the days of having no-cost appreciation may be numbered.
In order to drive your asset value higher in the future, it will be NOI driven and in the regulated industry such as ours, we all know that can be very difficult to do. Another thing to watch for, there are an estimated 6000 new units coming online in the next 18 months, so this will apply some downward pressure on class A and B apartments, provide an obvious increase in supply, and will satiate the market on the higher-end providing some trickle down relief to the rest of the SF market as the highest qualified.
My advice to you is if you were thinking about selling or refinancing I would encourage you to move forward as rates are still good relative to where they will be 2 years from now. Asset values are also still enjoying euphoric highs from the huge run up over the last 2.5 years. If you are considering selling, this is probably the second-best moment in the last 5 years.
The party is not completely over but it’s getting close to 2am.