Will Low Interest Rates Last?

Many people are buying a home or refinancing theirs at today's record (can anyone say ridiculously) low interest rates. These rates have been a nice boost to the real estate market at a time when other factors could have done significant damage.

The Law of Unexpected Consequences

Low interest rates have been a stimulus of their own to many industries where financing is the general rule. They have increased the number of buyers or, in the case of real estate, permitted buyers to purchase larger, more expensive, properties – for a while. However, this increased demand had the not unexpected effect of putting upward pressure on prices.

This increase in prices – also called inflation – is the very thing the Federal Reserve Board is in business to prevent, or so we are told. At this writing this rate is an “acceptable” 1.4%. However, if one knows much about economics and the calculation, we know the number is bogus since these figures do not include food or energy because, as we are told, they are far to volatile to be meaningful. Anyone who uses energy and buys food has seen where these prices are going.

While this bit of economic slight of hand would lead one to expect the Fed to begin bumping up the interest, even they understand that our economy weakened by the Chinese flu inspired shutdowns would not respond well.

Two Sides to the Low Interest Equation

While low interest makes large purchases more attractive, it is not without a negative impact as well. Many items require a down payment. Even the security deposit on a rental is a larger chunk of money than many people living paycheck to paycheck can easily lay their hands on.

The traditional way to get the down payment for a home is to save the money. The same low interest that makes the purchase attractive makes saving for it most difficult. The FHA has artificially solved this problem with low down payment options. Yet, with the sub one percent savings rate and sub two percent certificate rates even 3 per cent down payment is a reach for many.

A while back, when I was assuming control of inherited accounts, I was sitting across the desk from a bank branch manager. She was a nice lady who meant well as she recommended one of their “high yield” CDs. I looked at the numbers she showed me and told her, in a nice way that she should describe them as the best interest they have, but please, don't call them high yield.

Looking Ahead

Can the banksters function at 2 percent for long? It is not the way to their prosperity and their magnificent edifices. Many have compensated by chipping away at their customers with more and higher fees, while cutting operating expenses and services – encouraging automated banking rather than face to face interactions. In some ways this is a convenience for the customer, but it is a big cost savings for the financial institution.

In my younger days it was not unusual to make the weekly trip to the bank to deposit my paycheck and get to know the people who were handling my money. Not so today with ATMs and smart phone deposits. But is it enough to survive? Will the Fed be able to maintain the current interest?

We have to remember that the Federal Reserve, despite it's name, is not a government agency. It is a central bank, owned and operated by the banking community. The question is: when will the prime rate begin to rise and what impact will it have on real estate and on the economy as a whole?

Thin profits on loans, business loan failures, forbearances, foreclosures, will put more pressures on the beloved underwriters to make fewer and fewer errors in judgement – loans will be harder to get until interest rises and gives them more of a cushion. Even today, a majority of people cannot get a home loan while government types clammer for more “affordable” housing.

Is this all bad? Individually it may be, but loose lending practices are one of the factors that led to the 2008 debacle. The impact will be moderated as savings accounts once again pay reasonable amounts to savers.

Back to Dave Ramsey

While investors have to deal with lenders, the economic world we live in has been created to encourage us to mortgage our future by creating debt – for houses, for cars, for massive TVs and any other shiny trinket our heart desires. We are assigning future income to pay for today's enjoyment. Perhaps that enjoyment would be greater if it were accompanied by more equity and less debt that makes the prospect of an economic downturn to difficult to consider and more difficult to experience.

The rich rules over the poor, and the borrower is the slave of the lender. Proverbs 22:7

We seem to have forgotten this wisdom as we take the bait of low interest and and rush to enslave ourselves to the banksters.

Why Real Estate?

If you are reading this, I must assume that you have some interest in real estate. Whether you see it as a place to live, a place to do business or as a path to fame and fortune, there is a lot to like about real estate.

There is something that gives one a sense of permanance and stability that owning the place you live in gives you. That is why the real estate crash around 2008 was so tragic. It destroyed dreams and uprooted families. Looking back, the whole situation was fueled by greed and by government regulation.

At the time many lenders offered “no doc” loans that were based on “stated income”. That is you did not have to provide evidence that you had the ability to pay back the loan. This came about, in part, because inhabitants of the center of wisdom we call Washington DC felt that certain protected classes of people were not able to buy homes because of discrimantion on the part of the banking community.

Never mind that many had no hope of being able to pay the loans for their homes – they needed to be home owners. So hopes were raised as home loans were given with the primary qualification being one had a pulse and body temperature. What could possibly go wrong with this plan? Anyone who understands economics would realize by this time that adding many new purchasers to a relatively fixed supply of homes can only drive the prices higher. So people who could not afford a house in the first place were paying even more for the ones they got. Predictably then these same hopes were shattered when the stated income of, maybe $60,000 turned out to be only $30,000. When these buyers stopped buying and the houses went to the banksters, the demand dropped and so did housing prices.

People lost their homes, banks were flooded with non-performing notes and and inventory of houses they couldn't just dump on the market all at once or it would have caused prices to fall even further. Seeing the problem, but not the cause, Washington once again stepped in to save the banks even after criticizing them for too easy loan undewriting. Again, never mind that some of this was to pacify banking regulators who wanted to see everyone get a house that wanted a house.

Did we learn from this debacle? We did. Uncle Sam – I'm not sure. As an example of the impact this had on families, I got a call from a couple that had purchesed a home the year before and because they were getting a divorce, neither one could afford to keep the house by themselves. As we looked at the numbers, they owed over $200,000 on a house that was only worth $190,000 at the time. There was nothing there for a realtor. There was nothing there for me as they needed a resolution much more quickly than we could have worked through a short sale with the banksters. With some of the things we've learned in creative financing since that time, it may have been possible to work out some kind of a deal, but that was then they just had to walk away from it. Everyone lost... even the banksters.

Does that mean that real estate is a bad deal, that it is too scary to get involved in? No it just means we have to learn from the past. Think of it this way: if it was easy and fool proof, there would be little profit as everyone would be competing for deals and there would be nothing to build on. Andrew Carnegie once said, “Ninety percent of all millionaires become so through owning real estate. More money has been made in real estate than in all industrial investments combined. The wise young [person] or wage earner of today invests [their] money in real estate.” Now the percentage may have dropped a little from some of the recent tech millionaires, but the idea still holds true, especially if you are not a dedicated computer wizard.

Even Mark Twain recognized this when he said, “Buy land, they’re not making it anymore.” He understood the law or scarcity, that over time as there would be more and more people looking for a place to live, the fixed supply of land would become more expensive.

There are many ways to get profit from real estate, you can buy and hold it – renting it out so the tenant pays off your loan. You can buy run down properties and fix them up to sell them at a profit. If you have accumulated some money, you can finance such projects and receive an interest rate many times higher than your semi-friendly neighborhood bankster can provide. At this point it may be appropriate to point out I am not really down on the banking community, but to progress very far in the real estate business you will find that traditional bank financing will not be sufficient and other souces will be needed. But that is a topic for another day.

Of course, by being careless and not doing your due diligence, you can lose you hard earned dollars. However by paying attention and learning all you can, this risk can be minimized Beyond that, you will get an education in human nature as real estate is just the vehicle – it is still a people business. Robert Kiyosaki tell us, “Many novice real estate investors soon quit the profession and invest in a well-diversified portfolio of bonds. That's because, when you invest in real estate, you often see a side of humanity that stocks, bonds, mutual funds, and saving money shelter you from.” If you want the results you have to see these things, not as roadblocks, but as conditions of the enterprise and learn to deal with them.

Owning real estate is something you can feel good about, especially taking the worst house on the block and turning it into a show place. You are providing nice places for people to live. You are making nicer neighborhoods. Sometimes you are even helping people facing foreclosure to keep from being completely devastated by the whole situation. This is something you don't quite get by admiring your stock and bond certificates – if you even get them these days.

You get the satisfaction of creating something. I will leave you with what Donald Trump has said, “It's tangible, it's solid, it's beautiful. It's artistic, from my standpoint, and I just love real estate.”

Happy house hunting!