For those of you who read my August letter, you will recall that despite a widespread belief there would be an interest rate hike in September, I gave it ZERO chance as the emerging markets and Europe were doing their best impression of USA 2008. Now that things have stabilized, I am prepared to accept the likelihood of a rate hike.
What does this mean? First, understand the Fed Funds rate (the rate institutions lend to each other for overnight balance squaring) is basically zero. In 2007, when the Fed began lowering rates to combat deflation, it was 5 1/4 %. In 1979 it was 20%. The normal range is between 2 and 5%. The Fed is likely to raise from zero to 1/4%. This is far from a reason to panic. As a matter of fact, it is a signal that the fed believes the deflation risk is subsiding and that the economy will return to it's targeted inflation rate of 2% (a little inflation is a good thing). Mortgage rates trade freely in the open market. While Fed Funds do not directly dictate mortgage rates, they can influence them and other rates. Mortgage rates are not likely to budge much from historic low levels and the risk to the economy, capital and real estate markets in minimal at best. Over the next year, expect a bias to slightly higher rates, yet still far below historical norms.
There are still a large number "savers" in this country, shell shocked from a generational crash that have yet to put their cash to work. Some people have a perception that cash is a "safe" asset. Shockingly, the amount of deposits held nationwide is at an all time high of over 8 trillion dollars. What these people fail to grasp is that their money is not earning the .001% indicated on their bank statement. In fact, these "savers" lost close to 2% this year, 2% last year and will lose 2% next year. Compounded over a decade, this "safe" asset would return a 30%+ loss as a result of inflation eating away the purchasing power of those dollars. For this reason, a diverse portfolio across different asset classes is the only way to build wealth and counteract the inflation effect, albeit moderate at present. Real estate should be a major part of that portfolio. They aren't marking more of it, particularly along the coast where tear-downs are becoming more scarce and vacant land is long a thing of the past.
While my last newsletter indicated a top in the market, I should qualify that to say we have seen a subsiding of the buying mania. This does not mean we are due for a correction of any sort. There is still a shortage of inventory and there are still plenty of buyers looking for homes. The leveling off we saw over the last few months was due to several factors. First, the world stock market declines made headline news putting some nervous buyers on the sidelines. Second, sellers of late have been demanding prices that in many cases were above market which resulted in longer "days on market" stats. Last, seasonality of course comes into effect this time of year. Barring any major economic disruption, 2016 should see gains more akin to historical norms. A quick drive around town will reveal a fair amount of new construction coming to market, yet there is still demand to absorb that inventory. Additionally, El Nino may slow construction not yet past the framing stage, by a few months. Slightly upgrading my prior prediction, I see local gains in the low single digits for the coming year. So when you find the present under the tree with "Yellen" written on the tag, don't fear that 1/4 point. It is given with care and forethought. The market can easily absorb it and may actually benefit by not overheating, otherwise creating a bubble.... Wishing everyone a happy and safe holiday season!