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POSSIBLE INTEREST RATE HIKES AND WHAT THIS MEANS FOR COMMERCIAL REAL ESTATE…
Some economists are warning people to brace for interest rate hikes this year. Here’s what potential investors and owners can expect if this happens…
Borrowing more expensive
Interest rates can rise because of increases in the RBA bond rate or due to independent bank decisions and makes borrowing more expensive.
This can become a barrier to entry for borrowers, who will have to pay more to access the money they need for loans or mortgages, or can have higher equity requirements imposed. If rate rises are imminent, some borrowers will also be eager to refinance before the hike.
Cost of debt will increase
When you borrow money to finance an investment, you pay interest to the lender (be it a bank, credit union or other financial institution).
When the source of funds accessed by the funders increases in cost, the increase is passed on to borrowers in interest.
Borrowers may be restricted
Because a hike in interest rates makes borrowing more expensive, investors may be restricted to smaller loans so that they can maintain interest payments. This may require borrowers to put up more equity to acquire a loan, or to source cheaper properties.
Interest rate spikes won’t only impact property owners
Interest rate increases also mean that default risks for owners increase, which impacts the financial institutions’ risk exposure on existing loans. Lenders generally respond to such a threat by toughening their lending rules to reduce their risk.
It’s not all bad news
A more conservative atmosphere and tighter lending standards should give all players an incentive to minimise their risk, thereby assisting a soft landing after the sustained boom.
Higher interest rates may also actually indicate a stronger economy because it means economists consider the Australian economy to be healthy. And a healthy economy is excellent news for commercial real estate because, if it is subject to monetary inflation, it may lead to higher rental and sale prices.
What’s more, historical data can be interpreted to show that increased interest rates do not necessarily derail returns, provided the process is relatively gentle.
Remember: interest rates are not the only thing to consider when investing
Commercial investors should not focus all their attention on interest rates. Other economic principles such as vacancy rates, sector health, consumer spending and investment objectives (such as capital appreciation, yields or a steady income) should also be factored in.
The bottom line
It’s not crystal clear whether interest rate movements are, in themselves, particularly good or bad for the commercial real estate industry.
Investors should remember that interest rates are still low and that interest rates are not the only thing to factor in when investing. However, prepare for increases that may result in more conservative lending and borrowing.
Speak to the experts at TGC
For most who are well placed, an adjustment in prices resulting from interest rate increases can spell opportunity. Contact the experts at TGC for more information.