Main Takeaway: Many experts are looking for a Fed pivot in the latter part of 2023 or early 2024, whereby rates will hold steady or decline. For multifamily owners and investors, that means a decrease in debt costs, but the economic decline will put downward pressure on asset values and rents.
Story: Probably the most boring dance move, a Fed pivot may be on the horizon, according to several leading experts. How did we get here? Interest rates have hit 23-year highs, with Freddie Mac reporting the average 30-year mortgage rate now sitting at 7.09%, with MBA reporting 7.31%.
Housing Wire reports that rates could increase even more over the next few months: “Short-term, as long as the economy outperforms, 8% is in the works. However, you can see the limits of mortgage rates now because the Federal Reserve has told us they believe their policy stance is restrictive. They don’t want to push the lever too much because one of their goals is to keep the Fed funds rate higher for longer.”
Due to high rates, residential sales volume has plummeted. NAR reports that existing home sales dropped 3.3% in June month-over-month, and decreased by 18.9% year-over-year. In May, we saw the lowest monthly residential sales volume on record, according to Redfin.
Redfin CEO Glen Kelmen is quoted as commenting on this issue, highlighting that:
“Sales volume couldn’t be worse…The only people moving right now are the ones who absolutely have to…There’s a whole generation of millennials who are waiting for their opportunity, and there just hasn’t been that break in the market where prices have really come down.”
For this to happen, sales volume must pick up, and debt costs must come down.
Two-Step or Pivot?
So, all of this added together have some suggesting that the Fed may pivot and either drop rates or, at the very least, hold them steady. So, what exactly does a Fed pivot look like?
Not quite, but close. The Federal Reserve is getting more comfortable with inflation data, which two weeks ago came in at 3.2%, a slight uptick from 3% in June, but below forecasts of 3.3%. Although it marks a halt in the 12 consecutive months of inflation declines, it’s a strong deceleration from the peak of 9.1% last year.
Source: Trading Economics
That said, the vast majority of the current inflation we are experiencing is shelter, which accounts for a whopping 90% of all inflation. This means rising rates will be counterproductive by keeping shelter inflation higher, keeping overall inflation elevated. By reducing or stalling rate rises, the Fed can more surgically tackle the biggest component of overall inflation.
According to reports, Goldman Sachs has penciled in the Fed’s first rate cut in Q2 of 2024. The bank’s economists project that the Federal will start lower interest rates by the end of next June, with a gradual pace of reductions from then on. Bloomberg quotes a Goldman economist as saying: “The cuts in our forecast are driven by this desire to normalize the funds rate from a restrictive level once inflation is closer to target.”
Of note, the Fed target for the benchmark rate ranges from 5.25% to 5.5%, with Goldman stating that they expect that rate to stabilize to between 3-3.25%.
According to the recent CPI data, shelter inflation is a key component of the inflation picture, accounting for 90% of all inflation. Rising rates could be counter-productive as it will continue putting upward pressure on shelter costs.
Indeed, new research out of the San Francisco Federal Reserve Bank is a good news story on this end. Their forecast models predict shelter inflation will likely slow significantly over the next 18 months.
Source: SF Fed
This points to a potential Fed pivot in late 2023 and heading into 2024. As such, multifamily owners and investors need to continue to watch their debt stack but may look at more short-term lending solutions as rates appear poised for a drop in the coming 12-24 months.
Expert Take
“If the economy picks up steam and inflation picks up again, this variable changes. However, if the labor market weakens, they have given the marketplace a signal that fed rate cuts will happen. Even if the labor market stays firm, cuts could happen next year if inflation’s growth rate falls. This doesn’t mean we will see massive rate cuts soon, but it does lay the foundation for a less hawkish Fed going into 2024.” — Logan Mohtashami, Housing Wire
