Viewpoints: Interest Rate Hike

December 16, 2015
Marie Ruff

The Federal Reserve is expected to announce an interest rate hike today – the first increase in more than a decade. What would this mean for commercial real estate? Is this a single event or the beginning of a series of incremental, regular raises? How would the Federal Reserve respond if it raises rates and the economy doesn’t respond positively? We asked some of NAIOP’s Distinguished Fellows – an elite group of academic thought leaders from real estate programs at top universities – for their take on the interest rate increase and what it means for commercial real estate.

The impact of a one-off rate rise of 25 basis points is likely to be small. Most lenders are already underwriting loans at higher rates. By any historical measure, rates today, even if the Fed does raise them, are at very low levels. Longer term, the impact of a series of rate rises will likely moderate activity across most CRE sectors. Most projections show that any increase is likely to the first in a series of rate rises rather than a one-off increase. Failing some unforeseen situation, the Fed is likely to continue to raise rates in small steps through 2016 and into 2017. If the economy did go through a soft patch next year, I expect the Fed will hold rather than immediately rush to reverse their decision. Rushing to reverse a rate rise may send an adverse signal to the markets.

Shaun A. Bond, Ph.D.
West Shell, Jr., Chair in Real Estate and Director of the UC Real Estate Center, Department of Finance and Real Estate, Carl H. Lindner College of Business, University of Cincinnati

It may affect some smaller investors, but institutional and larger investors will still have such low cost of capital that it may be beneficial to them in that it eliminates some competition. Therefore, properties that attract that type of money are not likely to be materially impacted, but demand could soften a little on second and third tier assets, the buyers of which will be most affected by the rate increase. We have been punishing savers in this country for over a decade. Even with the rate increase, rates are still near historic lows. If the economy holds, rates are likely to continue to increase incrementally. This trend has been observed in other countries where central banks have raised rates. It’s possible that the Fed would react by reducing rates again, which is an option that hasn’t been in the quiver due to such low rates.

Danny Wall, MS, MAI, CCIM
Associate Professor of Finance, Director of the Master of Real Estate Development Program, The David Eccles School of Business, University of Utah

The rate hike has been discussed for so long it should already be reflected in prices. A more dangerous problem would be if the Fed doesn’t increase rates by a small amount in that the market is expecting a small increase, but the Fed doesn’t pull the trigger. That kind of uncertainty and opposite outcome would be bad for the economy. I think it is part of a slow increase, but rates should not be raised more than 50 basis points over the next year. Any more than that would be difficult for consumers and businesses to handle after rates have been steady for such a long time. If the Fed raises rates by 25 basis points and the economy does not change, that is OK. If the economy slips for more than two quarters, then the Fed should drop rates by 25 basis points. Interest rate targets are like a throttle. The Fed should be using interest rates to grow the economy in real terms to keep inflation in check.

Tom Hamilton, PhD, MAI, CRE, FRICS
Gerald Fogelson Distinguished Chair in Real Estate, Roosevelt University Heller College of Business, and Real Estate Counselor and Advisor, Karvel-Hamilton Real Estate Analytics/Protec

It is sometimes hard to convince young developers that for more many years, even decades, real estate transactions and development occurred at 5 percent, 6 percent or 7 percent interest rates and at times even higher rates. The commercial and residential communities have become comfortable with abnormally low rates; a return to more traditional rates will reduce the use of leverage but by no means halt real estate transactions and development. The expectation is that the Fed intends to slowly raise rates to a more traditional level, which also allows the flexibility of lowering of interest rates if the economy significantly slows.