Let’s address the elephant in the room. No matter who you discuss real estate with right now the topic always jumps to interest rates, and their quick rise into the 8% range. As of writing this we’ve had 2 clients submit offers only to have the interest rate jump nearly 1% while in contract negotiations. For one client it pushed his monthly payment out of his comfort zone and for the other it led to changes in the purchase offering. But here’s the deal, it affects everyone the same.
How Do Interest Rates Affect Investment Pricing?
San Diego was just named the most expensive city in the USA and rent pricing directly correlates with this study. The purpose of rising interest rates is to tamp down spending and ease inflation by bringing prices back down to “normal”. Being the most expensive city in the USA, with an extreme shortage of housing, prices are seemingly holding firm. Instead, what we are finding, in regards to pricing, is that sellers are still not lowering their asking price but are more flexible while under contract and with an offer in hand. Less offers are coming in and having a serious buyer is more important than holding tight on concessions while under contract.
Tenant concessions are by the far the newest aspect with rising interest rates. Typically sellers are uninterested in removing their tenants, especially long time owners with long term tenants. Right now, and it pays to be up to date on tenant law, most properties will not pencil without vacancy to allow for immediate rent increases. Being able to immediately bring rents to the market rate is the best way to overcome the interest rate rise and mortgage payment. We’re finding you can get the best deal (highest risk) with a tenant occupied property but with the most immediate upside in a vacant unit. So the strategy has shifted to look for properties that could be in distress. Usually distress means the owners need to get out. Here I am referring to the distress the current tenants are putting on the sale. Increasing rent 10% just doesn’t cut it when interest rates have risen and, typically, the seller's units are drastically under market. This could provide you more flexibility on price and concessions and potentially land you a vacant property through the sellers efforts.
How Do You Navigate Higher Interest Rates?
Use the same strategies. There is no reason to reinvent the wheel. In San Diego you may have to offer some concessions for rent but it is doubtful that rents will trend down. This means if you can make a property pencil at 8% with realistic rents (book a rent survey HERE) then it will only look better when rates drop. Even if it takes a few years for you to be in a place to refinance you’ll have been paying down a highly appreciating asset (well, your tenants will) and will have the potential for immediate cash flow upon refinancing. If you are looking for a property and would like expert guidance or are an owner thinking of selling, schedule a call HERE.