The End of Free Money

Wake up call has been blown to all quarters.  Interest rates are rising and the era of Free Money has ended.  The days of the stock market strategy of "Buy the Dips" and "it always will come back" are DEAD! The FAANG stocks are all in Bear Markets and every, or at least every, 2022 IPO is under water.  Sooner or later it returns to the 1970"s inflation and rising interest rates.

The FED has made the big change of ending the "FED PUT" to being the furnace that burns investors in aggressive growth strategies.

Where does that leave real estate?  A falling stock market and disenchantment with investing during the 70's led those left with cash using real estate as an investment alternative.  The money from the stock portfolio goes into a newer or bigger home, remodeling the existing home, or buying investment properties.  

The future does not change much from the past.  Don't expect it to.  As Yogi Berra once said "it's deja vu all over again".

Investors turn to real estate, but what happens to all those buyers?  Now we go to Econ 101, the Supply Demand Curve....remember that one?

We are in a present or once past situation in which there were more buyers that sellers.  A majority of buyers had , or have, a "Commitment Letter" from a Bank or Lender.  The past ones were good for 90 days and most of the past ones from the beginning of the year were at 2.75%, or at the onset of 2022 were at 3.13%.  When the FED began raising interest rates the new letters jumped!  2.75% from 2021 expired and jumped to 4.75%, then letters went o 5%, then to 5.25 and now at 5.4%, each jump cut a group of buyers out of the supply demand curve.  The lowest level in the affordability buyers are cut out.  They have either to make up the difference with a larger down payment or look elsewhere in affordable areas.  East to Sacramento, Modesto, or south to Gilroy are the new destinations, or out of the State of California.  The remaining buyers will have, or had,  their commitment letters cut.  The $2 million down to $1.6 million and downward for the rest.  As the buyer level is adjusted the overall market should see price adjustments too.  A recent buyer in Castro Valley bought a 3/2, fully remodeled and landscaped for $1.171 million, listed a $1.2 million and appraised $1.21 million.

The high end of the buyers will not worry of commitment letters, they pay cash.  But with portfolios down 20% or more, there is a tendency to feel a bit poorer.  IPO's will stop, but cash draws for investments in startups will not stop. Cash levels will increase, stock portfolios will be liquidated and the desire to pay up for Atherton. Los Altos, Los Altos Hills will begin to stop.

When the pressure begins from bottom to top the home prices will stop the dramatic increases.  Prices will stop increasing, some listing will see price cuts and some offers will be below list.  

This too will see a return to Bank Foreclosures.  Where will they come from? Where the potential will lie is in the Fix and Flippers in the "Starter Home" market.  It seems that East Palo Alto has been a haven for the Fix and Flip group.  Once these homes have been completed the bank loans become due and payable.  The Flipper's all have a forced sale or find the property in the hands of lenders.  It this a certainty?  No, but a possibility once the new loan commitments cut deeply into the qualifications of buyers.

Inflation does not stop without pressure from interest rate increases or supply increases to dampen prices.  At 8.5% annual inflation it appears we will have inflation with us for awhile.  Cheap goods from Asia have stopped either by lock downs from Virus or Tariffs.  The replacement require new plant in the US.  There will be little doubt in my mind that prices will move higher for those goods.  Oil is shipped to Europe; along with Natural Gas where the price paid is higher than the US.  Drilling has not increased as the Biden Administration has put policy changes that inhibited drilling and exploration.  So We pay the price.  Go electric is difficult as the Grid System can barely cover present needs without the expansion of electric vehicles.

The Fed may not increase 3/4% at the next move.  The estimate is for 1/2% increase in back to back FED meetings.  That could take mortgage rates on 30-year's to 6.4% from the present 5.4%.  More reason for believing that buyers will be reduced.  With the reduction of buyers, listing prices should see some caution in expecting over bids or quick sales.

There is a benefit for those who buy and look for an appraisal.  The appraisals are based upon the past 3 months.  The last three months have sales higher than the purchase price?  If so, good that means the buyer will not worry about paying more in a down payment.  

I still recommend buyers do not hesitate when they find a home they like.  Buy it!  Don't worry about any near term market weakness.  There is never a Bell to Ring when a bottom occurs.  As the buyer pays their mortgage the equity value increases with each interest and principal payment.  That is call amortization.  That is why real estate is a long term asset.  When the kids are in college or getting married the mortgage is paid off.  Don't live off of equity, no HELOC loans.  Pay off the mortgage, remodel and keep the home current.  You will be rewarded in the end!