7 Economic, Capital Market Trends To Note Ahead Of The Fed Meeting This Week
The Federal Reserve is meeting Tuesday and Wednesday to discuss monetary policy, the health of the economy and whether the country can withstand a rate hike in September — which would mark the third move this year.
Below are seven things the commercial real estate industry should note ahead of this month’s meeting:
1. The Fed Has Not Eased Monetary Tightening
So far this year, Fed governors have moved short-term rates twice — once in March and a second time in June — boosting benchmark rates to a range of 1% to 1.25%. June marked the third move in six months, but economists foresee inflation throwing a curveball into the central bankers’ momentum.
2. Economists Overwhelmingly Predict No September Move
A recent Wall Street Journal survey revealed economists overwhelmingly predict the Fed will not move rates again until December. Inflation targets have long been off-kilter, falling short of the Fed’s 2% goal.
“I do believe the Fed will continue to raise rates, and it makes sense to do so,” Yardi Matrix Director and Chief Economist Jack Kern said. “Extremely low interest rates aren’t good for the economy and it’s not sustainable in the long run if we want the economy to see significant growth.”
3. Confidence In President Trump’s Business-Friendly Policies Wanes
“First and foremost it was a reaction to the election and initial investor sentiment that the new administration would put policy in place that would be more expansionary to the economy,” Muoio said. “That was followed by the Fed tightening in December and earlier this year. Those two primary reasons [led to the increase].”
Interest rates inched upward following Trump’s election, reflecting confidence in his ability to pass business-friendly legislation such as corporate tax cuts, deregulation and increased fiscal stimulus. But as that post-election optimism wore off, many have come to terms with the fact that much of the new administration’s legislative reform will not be implemented, Muoio said.
4. Interest Rates Stabilize In Q2
As of Q4, Muoio said the 10-year Treasury rate stood at 2.14%. Interest rates jumped to 2.45% in Q1 and have recently inched back down to 2.16% as of Q2.
“With rates jumping the way they did, people started giving more thought to the higher rates and cap rates and what that may mean in terms of exit caps,” Muoio said. “A lot of deals were delayed, redone or canceled [as a result]. Now we’re starting to see market adjustment.”
5. Cap Spreads Widen
Though cap rates are up in every sector but industrial, and cap spreads have tightened compared to the 10-year average, according to Ten-X research, there is still cushion for the Fed's quarter-percentage-point boosts.
“I think if the Fed were to continue on its slow path of tightening, it wouldn’t have as disruptive an effect on the market as we saw last year. The biggest single piece was the shock of the election,” Muoio said. “As interest rates have dipped down, risk premiums or cap spreads have widened a little bit.”
6. Deal Volume Rebounds In Q2
The stabilization of interest rates and boost in investor confidence from Q1 to Q2 has sparked a rebound in transaction volume. Ten-X reports transaction volume in the second quarter increased 4.5% to more than $100B.
“The decrease in transaction [in Q1] was not unexpected,” Yardi’s Kern said. “The long-term trend and the way in which the number of properties have traded over time indicated there would be a slowdown. I think of it just as a pause in activity but not really a critical change in trend. It is certainly [also due to] the length of the cycle, but also a consequence of the changing goals that the investors have.”
Kern said investors have been increasingly turning from commercial real estate's inflated prices in search of more alternative investments with appealing yields, such as oil and gas, timber or mining and minerals.
“As they try to diversify, these things look attractive,” Kern said.
7. Pricing Is Still Erratic
Since Trump’s election, U.S. commercial real estate pricing has fluctuated to reflect investors’ uncertainty regarding the new administration’s policies and the long length of the cycle. The second quarter was no exception.
According to Ten-X’s Nowcast — a monthly pricing index that combines Google Trends data, proprietary transaction data and investor surveys to determine commercial real estate pricing trends in real time — commercial real estate pricing inched up 0.1% in August after having declined for four consecutive months.
“My best guess on volume is that it will recover further in the second part of the year as markets adjust and as long as nothing disruptive happens. Pricing is another story,” Muoio said. “The way fundamentals are shifting and the [length of the] cycle, I wouldn’t be surprised to see pricing continue to move sideways — up and down, but not really [reflecting] any definitive trend.”