If any news is generating more media coverage than the funerals for the late Queen Elizabeth II of England, it is the one produced by the rise in interest rates across the board in most developed economies. Above all, due to its impact on the possible effects of a recession at a macroeconomic level, as well as the consequences on the real estate market in its residential aspect.
Go ahead that making forecasts on a market such as real estate is very complicated due to the diversity of factors that intervene in its evolution. Few assets bring together transversal elements such as economics, sociology and psychology together in a market of heterogeneous prices where two assets located in the same city, neighborhood and building may no longer have different valuations, but rather very different prices. Having said that, Let us first understand what factors have caused the prices of residential real estate assets to have risen sharply in recent years and now find themselves at the center of a misunderstood speculative bubble.
In the first place, an abnormal policy and low interest rate longevity which has led to a growing consumption and investment trend, generating an anesthetic sensation about the risk that financial leverage entails. Secondly, a covid that has made us aware and rethink the place in which we live and develop our earthly existence, and that is a palpable example of the sociological evidence that implies a type of asset that more times than desired we classify as a investment good. Third, accumulated family savings that have been channeled into a type of asset that, due to its tangibility, often provides asset security. Finally, a lack of investment alternatives with a good balance between profitability and risk that would allow the investor to question where to mobilize their money.
In the case of fixed-income assets, we have witnessed a long period where those investments that are more averse to risk, such as fixed-term deposits or short-term securities and their institutionalized form of money market funds, have presented unusually negative returns. Likewise, its alternative to longer periods has lived with the yoke of a potential, now real, rise in rates that discouraged its investment due to a more than proven inverse relationship between movements in interest rates and the price of said assets. Secondly, a stock market marked by volatility and a background sea of mistrust that has not attracted at all to those investors who end up seeing in the tangible value an important element to minimize their level of insomnia.
Immediate future
But, what outlook awaits us for the real estate sector in the face of a rise in interest rates? Well, economic logic warns that a rise in interest rates slows down consumption, as well as investment. Therefore, everything suggests that in a type of investment such as real estate, where financial leverage is a source of profitability generation for the speculative investor and accessibility for the user investor, it will have a significant impact on the crossroads of supply and demand that carries out the generation of prices. But when we talk about correction, we must differentiate between a moderation in the percentages of increases and what we have ahead of us is a real drop in prices. And this is where the eternal question arises about whether the price bubble is going to burst and we are going to witness a case similar to the one experienced in origin in 2008.
Go ahead that for a bubble to burst there must first be a speculative bubble, and this is not the case of what has been experienced in real estate market prices in recent years. So that there is a bubble, a series of factors must be given among which the irrationality in the purchase of said asset stands out, and it is precisely this irrationality that, for the reasons stated above, has not occurred in recent years, since the strong demand experienced has had a characteristic of solvency and bank support much more controlled in risk parameters than the one experienced during the first years of this century. Another series of statistical data reinforces this thesis, such as the level of accumulated savings by the private sector, still high, as well as the soundness of financial entities’ balance sheets.
Does this mean that the residential real estate sector will emerge unscathed from monetary policies on interest rate hikes? The answer is no, since from the sector we believe that a price correction will be natural and also necessary for the sanitization of the sector since otherwise there would be obvious signs of folly and, therefore, the beginning of a bubble that yes which could be worrying in the medium term. Therefore, a certain rectification in housing price levels in certain markets will not only be logical but also good for the good development of the economy in general, and a good generation of investment opportunities freed from irrational exuberance.