Will apt values decline as interest rates increase

All other things being equal, they absolutely will. All most people care about is their monthly payment, and certainly operating costs won't go down in that instance, so up up up means down down down.

I think so too that as rates rise, cost should decrease. But just based on memory I don't recall a great difference in asking prices for when rates were 5.6 last Dec of 09 compared to recently when rates were at 4.4. Maybe small difference in asking because sellers weren't dropping -- there wasn't any whossh down? anyone recall...

The fact that rates have declined that much since Dec 09 yet prices have still declined should give you a clue as to where prices will go when rates increase...

Interest rates will not increase by any meaningful amount for at least a decade. The Fed will not risk a complete collapse of the US economy which would undoubtedly come about as a result of such a move.

Housing will continue to drop by single digit percentages for at least five more years while the inflation rate will rise. Stagflation is here and anyone who says otherwise is wrong.

It's all circling the drain, I'm afraid.

"All other things being equal, they absolutely will. All most people care about is their monthly payment, and certainly operating costs won't go down in that instance, so up up up means down down down."

Any data to back this up alan or is this coming from the latest issue of "Bear of the Month club"?

Which part do you doubt enough to request data?

I cant believ so few responses so far...In theory yes, in reality, inconclusive. I think it all depends on demand. rising rates will ultimately raise rents as well becuase the owner will pass on his additional financing expense.

JuiceMan, Alan's argument doesn't require data - if you assume an apartment's purchase price is a multiple of the monthly costs, then increased interest costs yield increased prices.

However, all other things being equal assumes nothing else changes (i.e. the multiple stays the same), and I would agree that buyers care about more than just monthlies. Demand could improve. Rising interest rates may pressure sideline buyers to re-enter the market while rates are still fairly low. Stock market gains may have made people feel wealthier than they were last year. An improved economic outlook might make those with jobs feel more secure. Some may anticipate a shortage of new developments in the upcoming years. And of course there's dozens of reasons why the multplier would contract, too.

So rents are a function of owner's costs not what renters are willing and able to pay?

and all landlords have one year ARMs?

cc, definitely not that simple. What renters are willing and able to pay certainly factors in, but owners' costs have to as well. These things aren't so independent of each other.

Really?

If people can't afford the asking rent, they don't rent the place.

"Which part do you doubt enough to request data?"

I doubt your entire statement but if you want, we can focus on "so up up up means down down down." This is a pretty lazy answer, not to mention wrong.

"Alan's argument doesn't require data"

Hey buster, long time, hope you are well. I disagree, alan's statement does require data, because it is false. He won't realize its false until he tries to prove it. That's why I asked.

"if you assume an apartment's purchase price is a multiple of the monthly costs, then increased interest costs yield increased prices."

Huh? If a home is $1.3 million, and I can finance 100% of it at 6%, the monthly mortgage payment is $7795, and that's GREAT! $7795 a month is exactly what I have/want to pay for my mortgage after paying for maintenance and crack. But if mortgage rates go to 8.5%, I'm STILL willing to buy that apartment, for $7795 a month mortgage payments and NO MONEY DOWN!!!, which is still exactly what I have/want to pay. And THAT'S great ... it buys me a $1,013,656 house.

11%, not unheard of? $818,434 home value.

pulaski,

..."The Fed will not risk a complete collapse of the US economy which would undoubtedly come about as a result of such a move."

Of course, this assumes the FED is smart enough to avoid such this. here's a few examples

1. the fed will keep inflation in check => Volcker in the 80's had to resort to painful double-digit rates
2. The fed will never allow the stock market to crash => .com bubble, they kept rates too low
3. The fed will never allow a housing bubble, or at least will create a soft landing => not much use
4. a hyper-inflation scenario ala-Zimbawee could also be defined as a complete collapse of the US economy

..and incase, the bond-vilgantes will act before the FED anyway

As I recall, a few months back someone here posted a link comparing interest rates to housing prices, and the two were not nearly as correlated as one might imagine -- even though in a vacuum higher rates would equal lower prices. Probably because the Fed only lets interest rates rise when there has been significant inflation and/or the economy is zooming -- under which circumstances when housing prices are usually rising.

(Sorry, stray "when" in my last sentence. Should be "under which circumstances housing prices are usually rising.")

cc, what happens when landlords' operating costs increase? Their margins shrink, they go in the red, and holding real estate becomes an untenable situation. All this means that demand for rentals will shift upwards. Or landlords could raise rents in relative accord with their cost increases. If people can't afford these rents, well, this is partly how gentrification happens, no?

Miette, agreed, you definitely need to consider incomes when answering this question.

From margins shrink to in the red can take years.

More to the point, what happened in last few years when landlords couldn't get their asking rents?

"holding real estate becomes an untenable situation. All this means that demand for rentals will shift upwards." ... you lost me at this "ergo"

"people can't afford these rents, well, this is partly how gentrification happens" ... and you lost me at this "ergo"

alanhart, whoops. I'm in a very earnings multiple mind frame right now. I guess I meant to illustrate the inversely proportionate relationship, like rising rates affecting bond prices. But I failed. Hard.

manhattan apartment prices will never, ever go down...they continue to go up, no matter what anyone posts.

That's okeh, buster2056 ... I'm always in a very loss multiple frame of mind.

julia, that holds true only for alcove studios and modest one-bedrooms.

Perhaps you might want to read through the 1856 posts on west side price movements and see if there is any factual basis to your claim.

alan, if owning real estate becomes an untenable situation, you've got a couple options as far as I see it: a) rent, b) move somewhere else, or c) put up some cardboard boxes. I would think choice "a" would increase demand for rentals.

As for the second point, when people can't afford rents and others who are willing to pay more move in, that generally causes a bit of displacement, no? Obviously, these are very pat explanations, but I think you get the point.

You conveniently ignored my question about what happened recently when landlords couldn't get their asking rents.

bjw2103, in the first instance, you specified landlords, as in housing businesses. Businesses do not live in cardboard boxes, and they don't rent when their core function is to own and rent out to others. Except for the Malkins. So neither one is an option.

In the second, "people" implies all people in general, on average, so there ARE no other people who are willing to pay more ... not even Hibernian woodsmen with Nordic credit lines.

So no, I don't get the point.

"cc, what happens when landlords' operating costs increase? Their margins shrink, they go in the red, and holding real estate becomes an untenable situation."

They sell. Usually for a price that matches projected cash flows (i.e. a lower price). The new owner then rents at the market price, just like the old owner. Only he is likely not in the red.

Sorry cc, didn't ignore it (you're automatically ignored on streeteasy, unfortunately), just didn't see it. Rents do come down some in cycles, there's no doubt. I'm not a landlord here, so I can't speak about how operating costs have truly trended, but those costs can fluctuate as well (especially energy costs, but labor too). And again, this is not the only factor impacting rents - incomes are a huge factor, obviously. The point is, these things are not totally independent. I've gotten the impression some people who post here really think that's the case.

labor costs are up based on union contracts. energy costs were likely down last winter vs. the prior winter and up significantly this winter vs. last winter. property taxes are up.

how many of your friends have an income that is going up vs. flat or declining?

and finally as AH points out, who are these mythical people that are ready to gentrify the likes of the glenwood buildings?

Probably, but not in a 1:1 ratio as if there is a fixed monthly nut payable by owners. A lot of the run-up last decade was because people expected appreciation, so they could in effect ignore the proper monthly ratio of how much to spend on housing. In turn, our society got to a point where expectations for "luxury" increased, and today people don't really want to trade down, unless they have to because of unemployment and similar hardship. Additionally, don't ignore that housing is not a debt instrument or bond, and because of the belief by many that they can ride it out ("gotta live somewhere, and the kids have all of their friends here plus the school district is great") higher rates that should mean lower prices may just mean that fewer houses go on the market and supply is constrained. But directionally, housing will probably decline as rates go up. Now, if there's hard reason to believe that rates are headed up in the near term, that is another story.

alan, businesses are people too. But seriously, there are two major cases here: the large management companies and the smaller landlords. The latter can indeed rent. The former have to divest themselves of their properties.

In the second point, "people" did not imply all people. Sorry but I don't know of too many neighborhoods, or cities for that matter, that contain "all people in general, on average." Hence, you know, people moving around and gentrification and all that fun stuff.

cc, I don't think all labor costs are based on union contracts.
As for income, I generally don't talk about earnings with people, but it's not like a small sampling of my friends will shed any light on this. Especially when we all know incomes are not exactly trending upwards overall. Obviously some industries will take it on the chin and others will do better, but overall, not much cooking.
As for gentrification, who said Glenwood buildings weren't already gentrified?

I think you guys (bjw & JM) are really confused / blinded to some simple basics.

There's this thing called the Fed, and one of their two primary jobs is to maintain a low constant rate of inflation. If/when higher costs translate into higher rents, this will have an inflationary effect by definition since the Fed's favorite CPI metric is 1/3rd rent. Do you know the Fed's primary tool in fighting this effect? Increase interest rates.

The Fed does this because because the entirety of mankind's knowledge about central banking says higher interest rates counteract inflation, of which rent is a primary component. Let's pretend you're running the Fed, bjw. Operating costs are going up, leading to rent increases across the country. What do you do, and what is the effect you are hoping for?

"As for gentrification, who said Glenwood buildings weren't already gentrified?"

That's a reference to your gentrification argument. When costs for the $6000 Glenwood rentals of the world go up because associated costs of purchasing (interest rates) & operating them go up, you make the argument that rents will go up because Glenwood will increase the price to $9000 and the people who can "only" afford to pay $6000 will be gentrified out of their place by all those $9000 people who are looking to gentrify the poverty-stricken but up-and-coming UWS.

Ultimately, a large chunk of buyers will buy what they can afford, and that means down payment and mortgage payments.... and if the same down payment and the same mortgage payments now get you less of a mortgage and therefore apartment budget, then the mechanics become pretty clear.

It is, of course, an AOTHBE, because often the factors raising/lowering interest rates are affecting other things.... but it itself, it is a fairly clear cause/effect for the buyers with budgets.

I was thinking along the same lines.

http://streeteasy.com/nyc/talk/discussion/24263-is-a-125mm-apartment-down-46-since-the-summer

its all about the affordability.

alanhart..you're correct...i also think studios are going up to mid $500k is because as rates rise they will need to lower their price point..when starting so high they won't need to drop that much. I give up.

"I think you guys (bjw & JM) are really confused / blinded to some simple basics."

Funny, after reading your post I could say the same thing about you. Hmmmmmmmmmmmmmmmmmmmmmmmmm

the fed will not move faster than inflation

Will the Fed have made the decision to raise rates because the economy is more stabile?

"Ultimately, a large chunk of buyers will buy what they can afford, and that means down payment and mortgage payments.... and if the same down payment and the same mortgage payments now get you less of a mortgage and therefore apartment budget, then the mechanics become pretty clear."

Does it? What if everyone that wanted to buy traded down a 100 sqft? Of course this would be over time, don't think rates will jump from 4.5 to 8.5 overnight.

julia, for the twentieth time, you are WRONG. sorry, love you to pieces, but you're not looking at closed units. and you're looking VERY selectively. giving up for now is not a bad idea, but obviously since you signed a two-year lease you have no need to search for closed sales.

i saw a simply gorgeous 1/1 in a good location on the UWS that closed for $520ish with $850ish mtc just yesterday. LT alcoves are much lower. have you looked at 160 WEA, which seems to have lower mtc., in the range of $850 for the alcoves (and that includes electric, remember).

you are a broker too? after all of this?

no, idiot, it had already closed. reading comprehension?

inonada, thanks - I certainly don't claim to be an expert on all of this. So forgive me for the possibly dumb question (I'm here to learn as well, after all), but how much do interest rates directly impact operating costs? All I'm really trying to say is I don't see how increased operating costs somehow don't impact rents at all.

"you make the argument that rents will go up because Glenwood will increase the price to $9000 and the people who can "only" afford to pay $6000 will be gentrified out of their place by all those $9000 people who are looking to gentrify the poverty-stricken but up-and-coming UWS"

Woah, hold on. I made no such argument. First of all, rents don't exactly jump up 50%. Secondly, I was only explaining that increasing rents can cause gentrification, NOT that it's a never-ending cycle, forever pushing people out of neighborhoods.

Yeah, julia, it's completely crazy to give up at this point. You really need to look harder if you're serious about buying. ar has posted dozens (if not hundreds of places that are worth at least looking at).

Here is why maintenance costs don't really factor into rents so much in Manhattan anymore...

Rents are a factor of what the market will bear. We've heard over and over again that they aren't building much more inventory. That means supply is inelastic. That means demand is the factor that moves the market.

So changes in cost really just don't matter here. A landlord's cost might double, but ultimately what he will charge will depend on how many people are looking to rent and how high they bid up the market. His choice will be to eat it, or sell... and let someone else take it who will take what the market will dictate.

Costs are simply a negligible part of the equation here.

Cue bizarro world communist finance lesson from financeguy

bjw: "Woah, hold on. I made no such argument."

I know you didn't make the argument. I was just saying that CC was applying your argument of higher rents through gentrification to a part of the market that many here feel is the topic of discussion here. In any case, I don't think "increasing rents can cause gentrification", but rather the other way around. Part of this is coming from improved housing the gentrifiers demand, part of it from "rising tide lifts all boats". But it's not like yuppies are goin around saying "Hey man, look at Sunnyside, rents are going up there for no reason, maybe we should live there!" Well, not for the most part anyways ;).

"inonada, thanks - I certainly don't claim to be an expert on all of this. So forgive me for the possibly dumb question (I'm here to learn as well, after all), but how much do interest rates directly impact operating costs? All I'm really trying to say is I don't see how increased operating costs somehow don't impact rents at all."

They don't directly affect operating costs. But that one lever is pretty much all the Fed has to work with (plus some other special monetary tools it's pulled out of its bag recently), and it affects everything indirectly through a very slow lag. Read this:

http://en.wikipedia.org/wiki/Inflation

The general idea is that by modulating interest rates relative to inflation expectations, one can vary the money supply. If I tell you that inflation expectations are at 5%, but it's gonna cost you 15% to borrow money, you are less likely to want to borrow money than if the rate is 0%. The act of borrowing money (or paying borrowed back borrowed money) increases (or decreases) the amount of money there is through the bank multiplier effect. Having more/less money in the economy for the same amount of goods is what inflation/deflation means.

Here's something that I find funny. There are those out there that think inflation is right around the corner. Yet often, they do things like pay down their debt. This, of course, is the wrong thing to be doing if you're trying to profit from the upcoming imminent inflation. Beyond that, however, is the issue of the aggregate effect. The act of paying down debt is deflationary, so not only is the person doing so putting on the wrong trade, but they are also contributing to the effect that is opposite of their prediction.

"Does it? What if everyone that wanted to buy traded down a 100 sqft? Of course this would be over time, don't think rates will jump from 4.5 to 8.5 overnight."

Yes, it does. What if everyone wanted triangular apartments?

But, yes, for the large share of folks who look for what they can afford - amusingly, someone just started one of those threads today - it is a pretty direct and clear affect. Are there exceptions? of course. But it a large chunk of your market just changed their situation, thats a pretty clear shift on the demand curve.

"So changes in cost really just don't matter here. A landlord's cost might double, but ultimately what he will charge will depend on how many people are looking to rent and how high they bid up the market."

exactly--and conversely, there can be times where LL's costs are flat or even decline, but demand from renteres is up, and rents can go up.

little correlation--rents determined by what market will bear, not LL's arbitrary adjustment of rents based on LL's costs

>rents determined by what market will bear, not LL's arbitrary adjustment of rents based on LL's costs

Is this theory, or are you in the industry and experienced?

all else equal higher rates make ownership cost more, and prices will adjust down--no where near that simple--higher rates oft result from strengthening economy and anticipated fed tightening--NYRE often does well under these circumstances

"So changes in cost really just don't matter here. A landlord's cost might double, but ultimately what he will charge will depend on how many people are looking to rent and how high they bid up the market."

If ownership costs double, what do you think happens to demand for buying and owning property?

bjw2103, demand for buying and owning property then goes down, so people are willing to pay less to be landlords. That has no bearing on what renters are willing to pay, except that the new, lower-mortgage landlord can profitably offer those tenants lower rents.

What part are you confused about?

alanhart, that's true, but at the same time, prospective buyers turn to renting, which boosts demand there. All I'm saying is that these factors do not uniquely impact landlords and owners. These are essentially substitute products after all.

If your point is that rising building operating costs won't exist in a vacuum, and the Little People's budgets will get dinged all over the place, yes, they'll have to reduce their housing budget whether they rent or own. So they'll downsize to smaller units, crappier neighborhoods (not LIC -- we're not talking apocalypse here), lesser closet interior fittings, etc.

All roads lead to the same place, there's no way out, and it's a lower elevation: the Valley of the Shadow of Death

"What if everyone wanted triangular apartments?"

Furniture makers would need to significantly adjust their design process

"But it a large chunk of your market just changed their situation, thats a pretty clear shift on the demand curve"

If rates go up in proportion to incomes how does that impact your demand curve?

Interest rates have complicated effects on sales prices that differ based on your time frame.

The short answer, however, is that current prices are so far above equilibrium that over the medium term prices are highly likely to drop regardless of what interest rates do. The short run is another matter.

Complicated answer:

In the short run, higher interest rates mean borrowers can borrow less and therefore demand drops. Since supply is pretty much fixed in the short run, this should mean prices will tend to drop, unless some other factor intervenes.

Of course, other factors will intervene: it is unlikely that interest rates will rise unless the economy is doing better, and that may increase demand, or not, depending on how well the Wall Streeters are doing, how they feel like spending their money, what the current state of bubble-ideology is, and what buyers and sellers think buyers and sellers are likely to think.

If you are trying to decide whether to buy now or in six months, short term matters, and you should try to guess whether the economy is likely to be doing better and what buyer and seller psychology are going to be.

On the other hand, if you are thinking about the impact of resale value on what you can afford, short term fluctuations are far less important than the likely price when you want to sell at some indeterminate time in the future. Oddly, predicting that price is easier, at least if you don't try to be precise.

Over long periods, markets tend not to stray far from the marginal cost of production, because producers produce more when prices are above that cost and don't produce when they are below it. That's why we call the point where price equals marginal cost "equilibrium". Of course, prices are rarely at equilibrium. But psychology and short term effects are just as likely to press prices below as above equilibrium at some unspecified time in the future, so even though you aren't likely to get an equilibrium price, it is still your best bet for a future prediction.

Low interest rates reduce the cost of building. So, while in the short run they may raise prices (because they increase a buyer's willingness and ability to pay, thus increasing demand, while short term supply is fixed), permanently low interest rates would **reduce** equilibrium prices (builders can make profits at lower prices, so they will keep building until supply catches up with the higher demand -- and that will be at a higher total number of units and lower price).

In the long run, increased demand will be met by increased supply. Prices won't rise unless the new supply will cost more to make than the current supply does. But high rise building is pretty scalable and NYers are startlingly willing to move to new neighborhoods for modest price discounts, so rising costs aren't too likely barring a collapse of the subways or a newly restrictive zoning law.

Of course, even with higher interest rates, the cost of building/renovating/converting-rentals-to-owner-occupancy in Manhattan/LIC is far below current prices. So the actual long term effect of higher interest rates would most likely be "prices won't drop as much as they would if rates stayed as low as they are now."

Incidentally, the financial markets clearly think that interest rates are going to stay quite low for a long time, so banking on a quick rise in interest rates is also a bet that you know better than the markets. Which you may. But then why not make the bet directly?

The effects of interest rates on rents are similar.

Short term is hard to predict, but landlords are unlikely to be able to pass through higher interest rates quickly, because most landlords won't have to pay them and will be willing to rent at prices that don't reflect them. Short term rents are much more likely to be affected by the number and pay of new jobs in NYC.

Longer term, however, if interest rates were permanently higher, all other things being equal, it would be less profitable to produce new rentals and more profitable to convert rentals to owner-occupied. The result would be that rental supply would tend to drop until rents rise.

Of course, if the city's renter population is not growing in size or affluence, that long term rent adjustment could take a very long time indeed: housing units last a long time and the NYC rental market is so much bigger than the NYC sale market that shifting some units from rentals to owner occupied is far more likely to reduce purchase prices than increase rents. Rents were below the cost of producing new housing from the Depression to the 1970s in most of the City. Landlords and builders acted predictably, and supply diminished. But so did demand. In the end, it took over a generation for rents to begin to rise to the point where building became profitable again.

oh no...not apocalypse!!!

very funny

rental buildings are pretty well permanently cast as such--with leases in place, rent control/stabilization, among other factors; it is very difficult to turn a building from rental to owner occupied--when an owner coops a building his numbers are complicated by the fact that he must compell renters to support his plan--makes tranition of existing rental to owner occ very expensive

Sorry, W. It was getting long, so I left off the alternative scenarios.

Tea Party wins, abolishes taxes. Inflation soars to 10000%. Unemployment goes to 30%. Riots in streets.

Or, if you prefer, left-Democrats win, mandate health care for all, hire massive numbers of unemployed people to rebuild decayed infrastructure and switch to climate-friendly energy, paying for it by taxing the increased income that results with a progressive income tax. Lacking freedom, armed citizenry revolts.

International economic elite, in a panic, decides that the safest place to put their money is -- LIC high rises! Prices soar.

i am currently in traffic on the 59 st bridge with the hordes of buyers preparing for the inevitable

Re moving from rental to owner markets. I agree that arbitrage is hard; that's why the bubble didn't collapse under its own weight in 1993.

But at the margin, it's not that hard for an Irish carpenter to decide not to renew the lease and instead sell his investment condo to an owner-occupant. Meanwhile, the big landlords have been converting for a generation already; its hardly impossible.

>>>"What if everyone wanted triangular apartments?"<<<

You mean like this one?:

http://img.streeteasy.com/nyc/attachment/show/505094-the-riviera.jpg

FWIW, Most retail investors, especially homeowners, focus on changing mortgage rates because they have a direct influence on real estate prices. However, interest rates also affect the availability of capital and the demand for investment. These capital flows influence the supply and demand for property and, as a result, they affect property prices. In addition, interest rates also affect returns on substitute investments, and prices change to stay in line with the inherent risk in real estate investments. These changes in required rates of return for real estate also vary during periods of destabilization in the credit markets. As investors foresee increased variability in future rates or increase in risk, risk premiums widen, putting increased downward pressure on property prices.

Falcogold1, That is a lucid, intelligent, well-thought out position.
Overruled.