Not a big deal
The Federal Open Market Committee unanimously voted to raise the range of the federal funds rate by 0.25% to 0.50% – 0.75% (from 0.25% – 0.5%) on 12/14/2016, citing progress in economic activity and labor market growth. This rate hike marks the first for 2016 compared to expectations for two-to-four rate hikes this year back in 2015.
The reality is the market already jacked up rates for all consumers by a more aggressive 0.5% – 0.75% this year as Treasury bonds sold off post Trump’s victory. The 10-year Treasury bond yield is now hovering around 2.5%, the entry point I’ve been looking for to build a municipal bond portfolio.
With unemployment below 5% for the past year, a level that many economists consider to be full employment, it seems like an inevitability there will be inflationary pressure due to higher wages, higher demand, and higher prices.
Is The Economy Really So Strong?
As an investor, I’m always looking for evidence to guide how I should allocate my savings. Not a month goes by when I don’t invest in something. And to be frank, I’m always very cautious before making any investment because I have this tremendous fear of losing money after being burned so many times in the past.
But now it seems like everything is stupendously terrific – like a runaway freight train to mega riches for all! I no longer fear only eating ramen noodles thanks to an implosion in the economy. Instead, I’m thinking about getting outside of my frugal comfort zone and living it up.
I can’t tell whether this more carefree spendy attitude is because I’m about to experience a mid-life crisis, or because my assets have continued to grow, or because of a potentially massive business tax cut that will free up more disposable income.
What I do know is that every time I get deliriously bullish, BAD THINGS HAPPEN. As a result, I’d love for you readers to help provide some prospective and go through this post rate hike check list with me. Read each question and answer it in your head or in the comments section.
1. Is a record high stock market helping your wealth?
Yes. About 25% of my net worth is invested in the stock market.
2. Is a bull market in real estate helping your wealth?
Yes. About 40% of my net worth is invested in the real estate market. Although, prices in expensive coastal cities have started to cool off.
3. Is a strong economy helping your wealth?
Yes. The stronger the economy, the higher the employment. The higher the employment, the more money people have. The more money people have, the more people want to know what to do with it. When more people are looking for financial solutions, personal finance related businesses boom.
4. Does a rise in the Fed Funds rate hurt your financing costs?
No. I refinanced all my mortgages when the 10-year yield was below 1.6%. I have no revolving credit card debt, HELOCs or student loans. Nor do I plan to borrow any money in the foreseeable future.
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Yes. I plan to take advantage of higher rates by buying assets that must also offer higher rates to stay competitive. Such assets include municipal bonds, regular bonds, REITs, dividend paying stocks and real estate crowdsourcing investments.
Example of a 1% increase in the preferred return to 15% of a real estate crowdsourced deal post rate hike.
6. Do higher rates help retirees or people who want to retire earlier?
Yes. Higher rates mean you require less capital to generate the same amount of income. The less capital required means the less you need to work and save.
7. Does higher inflation help your wealth?
Yes. As an multi-asset owner, my assets are inflating with inflation. As a landlord, I have the option of raising rents to keep up with inflation or profit from inflation.
8. Do higher interest rates make you want to save or spend more money?
Given inflation is supposed to increase, the value of a dollar tomorrow will be worth much less than the value of a dollar today compared to a lower inflationary environment. As a result, it feels better to spend money now to enjoy life more or buy assets that will ride the inflation wave. Both routes provide a positive benefit.
Who Loses In A Fed Rate Hike?
Now that you’ve answered these eight questions in your head or shared them in the comments section, we’ve got to remind ourselves who loses. The archetypical person who loses can be described as one who does not invest in inflating assets, is a price taker, has poor job skills and does not read personal finance blogs. Therefore, all of you should be continuously saving, investing, learning, hustling, and WINNING!
Even if you are seeing your borrowing costs increase, you will benefit from a rise in income through the myriad ways of making new income to more than offset any cost increase.
As I conclude this post, I still can’t find any reasons not to be fine with an interest rate hike. The Fed isn’t stupid enough to raise too much, too soon. The only thing I’ve realized is that I’m not so deliriously bullish as to aggressively buy more equities. Just my normal investing cadence will do.
As of 4Q2018, the 10-year bond yield is still under 3%. Therefore, the yield curve has significantly flattened, and might invert some time in 2019 as the Fed raises rates a couple more times. Beware, as recessions usually happen within 18 months after an inversion.
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Updated for 2019 and beyond. The 10-year bond yield breached 3% in 2018 and is now closer to 3.25%. Mortgage and credit card rates are up, and we’re late cycle in the bull market.
Even if the Fed does hike rates in 2017, borrowing costs should remain extraordinarily low. If you review many credit card contracts, you’ll find that even with some increases, certain interest rates remain constant, as the sum of the index and margin which governs rate changes remains below stated interest-rate floors, so a borrower might not see any effect until rates are considerably higher. Of course, if you are affected, a way to ameliorate the impact of higher interest rates (for any variable-rate debt, like credit cards) is to pay balances down more quickly. For savers, it will take more than a couple of hikes to have much effect on deposit costs as banks are fairly flush with cash and don’t much need to compete for new deposits as yet. One item worth considering is that the Fed currently believes that the interest rate it would eventually like to hit is about a full percentage point below historic norms for the federal funds rate, so even higher market interest rates may not end up all that high.
Sam – rate hikes are just going to take us into a different environment. Stock prices tend to do well during the early part of rate hikes. Jeremy Siegel has done some good analysis on this and is well worth a read. Financial (Banks and Insurers) companies will certainly benefit from the early rate hikes as they can increase margins (banks) and earn more off their “float” (insurers). Companies with net cash (or little debt) on the balance sheet shouldn’t do too badly as well.
Later on in the rate hike cycle, you may see some problems. This is likely to start with higher loan loss provisions for banks, meaning banks get more cautious and you get a credit contraction. Rate hikes also gradually increase the risk free rate which has to effectively re-price all asset classes (stocks, bonds, real estate) lower as investors demand higher returns from those assets.
Of course those comments is how the logic should go but those of us who have been studying financial markets for a long period of time know that markets are not always logical and prices can (and do!) fluctuate all over the place!!
1. Is a record high stock market helping your wealth?
No. I am still in the accumulation phase. I would prefer low prices until I retire in 16 months!
(Technically, my net worth is going up, but it would go up even more if prices stayed the same for 16 months and ONLY THEN went up.)
2. Is a bull market in real estate helping your wealth?
Technically, my net worth is going up. However, that is bad because I’m in the buy and hold rental property business (except for one property I’ll flip), so that just means my property taxes will go up sooner. I would prefer they didn’t.
3. Is a strong economy helping your wealth?
Yes.
4. Does a rise in the Fed Funds rate hurt your financing costs?
No way in hell would I get a variable rate mortgage or HELOC when rates were at historic lows! Plus, house prices should depress over time if rates go up, so they’ll be cheaper to buy and hold for cash (which is how I finance them).
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Sure, but not at the moment. I’ve already planned how I’ll be investing for the next 2 years and that’s unlikely to change unless we’re talking really big rate hikes. The opportunity cost of not completing my last investment project are too high.
6. Do higher rates help retirees or people who want to retire earlier?
Sure, if they are savers and not borrowers. But it will sure slow down folks with variable rates who have to pay off a bunch of debt before they start saving.
7. Does higher inflation help your wealth?
Yes. We own 6 properties and all will go up in value. Our passive income streams will all keep pace with inflation. (Active income streams – our salaries – probably won’t. They will lag behind by 12 to 18 months at the very best.) Other industries might have very different results on this!
8. Do higher interest rates make you want to save or spend more money?
Save.
I think the big question is #4 (Does a rise in the Fed Funds rate hurt your financing costs?). Higher financing costs don’t hurt Sam because he was able to refinance when rates were low, but it will impact a lot of people who are buying property in the near future.
Maybe. Or maybe the people buying in the future have seen their wealth surge due to the bull market and raises that the higher finances costs don’t really matter.
I’m hopefully that everybody who has been reading FS and other financial blogs for the past several years has refinanced.
1. Is a record high stock market helping your wealth?
No, at least not directly. My net worth is in houses, land, and cattle. This is the case for many in my area.
2. Is a bull market in real estate helping your wealth?
No, Land in Kansas has experienced a substantial drop of ~40% after doubling twice in value from 2001-2014. Housing in my area is steady to declining in value do to the huge oil influence here, and since oil is lower, so is housing.
3. Is a strong economy helping your wealth?
Perhaps, it appears cattle prices and boxed beef prices are on the rise.
4. Does a rise in the Fed Funds rate hurt your financing costs?
No, no credit cards and I refinanced my house 9 months ago.
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Not so far.
6. Do higher rates help retirees or people who want to retire earlier?
Yes, if they are the type of retiree who likes steady returns from bonds and CDs. Perhaps in other ways too.
7. Does higher inflation help your wealth?
I have assets that inflate, so yes.
8. Do higher interest rates make you want to save or spend more money?
Continue to spend the same personally, and if I were wanting to invest in more land, for example — I would do it now. No reason to hope rates will return to a lower point in the near future.
The interest rate hike will help me. My current assets are mainly equities, and I’m listening to your advice to wait until the end of 2018 to purchase a home. In the meantime, I’ll just pay down debt and build up cash and equities.
Who else loses? Holders of bond funds lose serious principle. I think a lot of people will get hit here. However, I’m not sure I agree with the comments that are directly linking mortgage rates to the FED funds rate. I don’t think it’s so clear. The link with inflation is much more direct. Same with gold prices. I have looked at the data and computed correlations between FED rate and gold prices, and it is weak (results plotted on my web site).
See: The Fed Funds Rate And Mortgage Rates
Even though CD’s are taxed at ordinary income, I’ve been trying to jump on the high yield CD’s that occasionally crop up instead of dumping funds into bonds/munis. I think 2016 was a net loser for all of my bond funds.
Rates artificially at Zero for eight years, masking continued weakness in the economy. Not afraid of the rate hike, am welcoming it as a first baby-step to Fed rate normalization.
FS, love the questions, it is a great checklist and everybody should be able to find something to love and fear. For myself as someone with zero debt, 10% of my liquid NW in equities and 90% of fixed instruments, I’m welcoming higher rates of return as I rotate my ladder.
I’m actually seeing signs of deflation for many years (real wages lower than 30+ years ago, home prices increase based on 2% mortgage payments, labor participation rate continues to decline, gas prices lower today than 10 years ago, etc.). So things like a $15/hr min. wage, large healthcare cost increases, and food costs (4% of avg. household budget) have high visibility, but have been absorbed by greater deflationary pressures. We will see, in the fullness of time!:-)
Oh and in March of 13, we locked in a 15 year mortgage at 2.75 so that is not a concern.
I have more than double in the stock market when compared to Sam. Higher rates will hurt the markets but not immediately. We are still at crisis level rates. A normal fed funds rate with the economy we have today would be 3-3.5%. Thus, there is a lot of room to raise rates. I think we will see that in the next 2 years.
My goal is to reduce my equities, gradually to 40%. I look to do so over a 2 year period. My hope is that the market doesn’t bring me there first. I will increase my cash position since I don’t think bonds or real estate (except for direct ownership like Sam has which have rentals) will be a very good investment. I have almost nothing in bonds at the moment and have 12% (not including residence) in real estate.
6 months ago, I decided that my view on oil was that it would not go back to the 20’s and would gradually increase. I have been selling puts against a few of the smaller exploration firms. I will continue to do that but look for other industries. This is an income strategy.
I will look at bonds when the fed funds rate is over 2. I just think you are burning money now by investing in anything other than an extremely short duration bond.
1. Is a record high stock market helping your wealth?
Yes. But I’ve shifted my new money strategy to account for high multiple on equities and new administration.
2. Is a bull market in real estate helping your wealth?
Yes. But not as much as other areas of NY real estate. Rental properties and home have flatten out. MTM for real estate doesn’t make much sense on rental properties unless planning to sell so I don’t follow as much. I focus on Multiple of Income on Asset and how both grow over time.
3. Is a strong economy helping your wealth?
Yes. Labor production is up and helping my NW. But share buybacks is really the driving force behind my portfolio/wealth growth. EPS is up as a result of buybacks, less related to CAPEX, I’d like to see that increase with the new administration. As well as lower expenses due to tax reform.
4. Does a rise in the Fed Funds rate hurt your financing costs?
No. I also refinanced all debt and lower rates. I have no revolving credit card debt, HELOCs or student loans. Nor do I plan to borrow any money in the foreseeable future unless a new investment property presents itself with a Cap rate of ~10% (less and less of them in my area).
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Yes. I plan to take advantage of higher rates by buying Fixed income assets in a dollar cost averaging approach. Increasing my purchases as a % each time the Fed raises rates. Your buying increased coupon rates at lower prices. See the marketwatch article about correlation between FI and equities below 5% Fed funds rate and negative correlation above.
6. Do higher rates help retirees or people who want to retire earlier?
Yes. If their portfolio is all Fixed income, however, if equities it is actually counterproductive long term, signifying inflation and increased expenses to corporates.
7. Does higher inflation help your wealth?
Yes. Same as you Sam. As an multi-asset owner, my assets are inflating with inflation. As a landlord, I have the option of raising rents to keep up with inflation or profit from inflation. I haven’t raised rents in a few years to maintain good tenants long term. A 2 month vacancy would eliminate any $200 per month increase I was able to obtain. Hopefully that strategy pays off.
8. Do higher interest rates make you want to save or spend more money?
– Save and lend more.
My wife and I (early 30s newlywed millennial couple) are planning to buy a condo in the peninsula Bay Area around winter 2017/18. These Fed rate hikes are interesting to us for these reasons:
-While we certainly have the income and credit for the aggregate costs of a nice 2+ bed condo (approx. $600-$650k), our biggest obstacle is the down payment (obviously very common for BA millennials). We’ve got over half of the 20% and may borrow from my parents’ heloc to cover the other to avoid the PMI. We have the income to pay it back within two years regardless of the rate hikes affecting the loc interest rate (as it’s based on WSJ’s prime rate)–even at 5%+ it’s less than my grad school loans were and far better than worrying about mortgage insurance.
-It’s hard for me to tell if I should root for increasing mortgage rates or not, insofar as it may lower prices by the time we’re looking to buy. I’m not worried about the mortgage rate itself, but I am worried about the rate going up and prices somehow continue to rise. Allay my worries?
-I’m starting to keep an eye on the 2 yr and 10 yr treasury yields for any indication of a burgeoning recession, not just because of the impact of my home-buying next year, but because I work in local government. This is a big year for Measure A funding and I’m curious to see its allocation. Maybe Yellen triggers an accidental recession.
You should root for higher mortgage interest rates to squash the property market. You can always refinance your mortgage, but you can never change the original purchase price of your house.
I am hoarding cash and placing some of that cash in municipal bonds to wait for what hopefully is a further decline in the high-end real estate market here in San Francisco. I’m either going to buy a sweet place in one or two years, SF or Buy a sweet place in Honolulu, where the high end has definitely softened.
Hi Sam,
I don’t know if you feel it but outside the left coast we can definitely feel it. It is a secular shift in America, the stock market, the fed, the business world. Today you had Kara Swisher from Recode defend her negative tweets about Trump meeting with the tech CEO”s. Trump meeting with Jeff Bezos is like Obama meeting with Rex Tillerson. The difference is Obama didn’t meet with Tillerson.”secular shift.”
The Fed after years of saying congress and the administration need to do more to support the economy raise rates a measly quarter point and trip over there tongues when asked about stimulus and tax changes. They are so far behind the curve they will be lucky to finish their terms without being irrelevant. “Secular shift.”
Anecdotal, but I have 4 friends who own there own business. We are all excited. For the first time in years we have hope. Tax changes will only help us a bit, regulation changes not so much, repatriation not a chance. Even though Trumps major initiatives won’t affect us much we do feel they will affect the country in a positive way. ” secular shift.”
I’ll get of my soapbox and answer your question. A normalization of rates is good for the country, and people who save and invest should not be afraid of a fed funds hike. They should embrace it!
Thanks, Bill
I’m impressed with what Trump has done even before getting into office. He reminds me of a businessman who is focused on results and not just grandiose talk.
So I do feel it and see it living in the most blue city in America. It does feel like he’s going to whip people in shape in Washington DC. So as a business owner, I hope he does get rid of some red tape and lower taxes.
One more question to add to your list:
Will rising interest rates impact property values?
Most likely yes (in a negative way). How this will impact rental income is not quite so clear…
Higher interest rates will certainly negatively impact property prices in the short run. It fins out competition and allows for people with cash and stronger finances to take advantage of deals.
1. Is a record high stock market helping your wealth?
Yes. I am heavily invested in equities and my portfolio is growing. I also have a large amount pooled into one specific stock and it has paid off ten fold and continues to do extremely well.
2. Is a bull market in real estate helping your wealth?
Not really. I currently rent and don’t plan on buying a home any time soon.
3. Is a strong economy helping your wealth?
My wealth, yes. My portfolio continues to grow.
4. Does a rise in the Fed Funds rate hurt your financing costs?
No, but it is really going to effect my income. I am a loan officer at a mortgage company and business has grinded to almost a halt after the election.
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Absolutely. I have a lot tied up in the market, but given my line of work, my company may start to lay off a large portion of our origination platform. Thankfully I’m quite skilled at what I do, but I will admit that I am concerned about my future employment here. Therefore, I am hoarding as much cash as I possible can for now. I am waiting to see if my company will start to offer more non-traditional products so we can continue to originate. People will always need loans, but my company has far too many people staffed right now.
6. Do higher rates help retirees or people who want to retire earlier?
Yes? I guess it depends on your portfolio.
7. Does higher inflation help your wealth?
A higher cost of living in the line of work I’m in with potentially lower income due to less refinance business concerns me. However, I think purchase business will start to be our main focus.
8. Do higher interest rates make you want to save or spend more money?
Save! I was spending a lot of money on silly toys when I was able to sell extremely low rates up until the election. I already had a lot saved and invested and I made it a point to save $1.20 for every $1 spent, but boy did I burn through some cash. Right now, I’m watching my spending and I certainly I’m not buying as many toys and goodies as much as I was.
It’s an interesting time. They’re telling us to start selling more cash out refinances and lock in people on ARMs, but I think my company is being a bit too optimistic. I’m expecting a drastic reduction in force and possibly even having to change career paths, but we will see. I very much wanted a Trump presidency, but my income is going to take a hit.
Very insightful stuff Robert! What are you seeing in new purchase mortgages? Did those tick up, down, or stay the same?
The refi boom is definitely over for now. But, it’s been a great run for so long, we all knew it was bound to end. I’m curious if people are rushing to buy houses now out of fear rates will go higher or are now patiently waiting for prices to come down.
I’ve taken the view that I’m going to wait until AT LEAST winter of 2017/2018 to look for new property again. It would be interesting if rates jack up higher, property prices correct big time, and we go back into a recession.
Thanks
Hi Sam,
Thank you for responding to my comment. Been a reader for years.
Most of my business is refinance driven. I work at a very large non-bank servicer in a call center environment. Our senior management has informed us that we’ll be able to start driving our own purchase business, but outside of that I’m not sure if applications for purchases have increased. A lot of loan officers are using the fact of rising rates to secure as much business as they can. Fear in the financial world is a hell of an effective sales tool.
I’ve been told that in the mortgage industry, the higher the rates, the more creative the products start to become to compensate for that. I’m curious to see how the changes to the CFPB and Dodd Frank (if any) will change what kind of mortgage products we’ll be able to offer. What I’m starting to struggle with is whether or not the loans that I will be doing will truly be helping people out. I’ve been able to save people tons of money by shortening terms or reducing their monthly payments in this low rate environment. I don’t know how I’ll feel when I’m trying to sell people to max out the home equity that they’ve only now started to get back.
Fortunately I’ve been wise enough to hoard enough cash to take time off if I wanted to and switch back on the salaried lifestyle. I promised myself that I’d only do it for a job I liked in an industry that I cared about. Earning commissions and making how much I felt like making has been rather nice. I thought about switching to a Financial Advisory role, but your friends at WSP say that anything outside of Investment Banking wouldn’t necessarily be worth it due to automation.
1. Is a record high stock market helping your wealth?
Yes. Heavily invested in equities (80% of net worth) Have been very happy with 2016.
2. Is a bull market in real estate helping your wealth?
Yes, Own a primary residence in Portland OR and an investment home on Oregon Coast. Both are worth a nice chunk more than we paid and investment/ vacation house is cash flow positive so that i s pretty cool.
3. Is a strong economy helping your wealth?
Yes, our assets are worth more and my employer does better which means I get bigger bonus.
4. Does a rise in the Fed Funds rate hurt your financing costs?
Not really, I have always used fixed rate mortgages and my revolver is usually pretty low. I recognize the fixed rate choice has probably cost me $. In the end, I just feel better. I think that is ok and a valid part of the equation.
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Maybe take my foot of the gas in terms of risk. If I can secure desired rate anyway, why take on the risk? We are looking to stop working for “the man” in two years.
6. Do higher rates help retirees or people who want to retire earlier?
I hope so (see above)
7. Does higher inflation help your wealth?
Not sure – I think one needs to account for inflation and have some estimate built into the calculations.
8. Do higher interest rates make you want to save or spend more money?
Neither. That just would not enter into the equation. We have never been a spendthrift couple however as wealth has accumulated; we have been more comfortable just buying what we want without as much evaluation of the purchase. I would say we are still not a very spendy couple as we save greater than 50% of earnings. If I wanted a new car though, I would not think how much interest or dividend would that expenditure be worth if saved or invested.
*Slaps Sam silly*
Okay, now that that’s out of the way:
1) I dunno. My portfolio IS all stocks and my portfolio has increased, but I don’t look at that sort of thing for my investments. I’m an income investor, specifically a dividend growth investor, and I welcome a stock market correction more than a boom. The former allows me to purchase more dividends with the same capital.
2) Sweet mother of god, no. I’m currently saving up to buy property but I’m not there yet. So the increase in real estate prices is pricing me out of the market.
3) I hope it will. I own a business where my success is tied to consumer spending. Without going into detail, the more people have to spend, the more successful my business is.
4) I’m sure they will. Currently debt free, but my eventual mortgage will now be that much higher.
5) Absolutely not. As stated before, I am a dividend growth investor. I buy companies that have paid and raised dividends for decades on end. Regardless of interest rates, oil prices, and other macro factors, these businesses will continue to sell vital products that people need and will increase their profits over the long term. Owning the most powerful businesses in the Western world sounds like the most winning strategy of all.
6) Yes. Higher rates help savers but hurt borrowers. Lower rates do the opposite. Retirees need higher rates to make their savings go farther.
7) No. I don’t think the devaluing of the dollar can help ANYBODY in this country. I need each of my dollars to buy me MORE, not LESS.
8) Neither. I’m a saver and an investor, and I don’t use inflation as an excuse to pick up bad financial habits.
Sincerely,
ARB–Angry Retail Banker
Good thing the US dollar is at a ~13 year hi as foreign buyers biopsy US debt and assets in droves!
Now the question is, will do US consumers buy up the world?
1. Is a record high stock market helping your wealth?
Only a little (my fault). Only 10% of my net worth is currently tied to equities
2. Is a bull market in real estate helping your wealth?
Yes. My home has appreciated >40% in the past 7 years. It accounts for ~30% of my net worth
3. Is a strong economy helping your wealth?
Not as much as it could, unfortunately I’m still a hamster wheeler, and my wheel is tied to the energy industry (specifically oil)
4. Does a rise in the Fed Funds rate hurt your financing costs?
No. My mortgage was paid off recently
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Maybe. One of the main reasons I’ve stayed away from equities is my belief that the Fed has greatly distorted the markets since QE. I’d be happy parking some of my money in bonds at reasonable rates.
6. Do higher rates help retirees or people who want to retire earlier?
Yes. They need to go higher still
7. Does higher inflation help your wealth?
Still sitting on too much cash ~60% of net worth. Unless I deploy wisely, higher inflation would have little impact
8. Do higher interest rates make you want to save or spend more money?
Still too frugal to let that sway me, although the EUR/USD exchange rate is making me feel better about spending 2 months in Europe next year!
I don’t have plans to make any major changes to my investments now that the Fed raised rates. I think I’ll continue to invest each month, I just might not pay down as much extra principal on my mortgage as I did last year. I did go ahead and put some extra principal on auto-payment however for next year, so I still can continue to benefit from paying down debt at a faster pace than my loan, but will have enough liquid capital to regularly invest while I’m at it.
We’re (wife and I) are in an interesting spot. We’ve decided to relocate out of the bay area now that my company is going full remote. We’ll be selling our town home in Walnut Creek and moving to Ann Arbor, MI. This is based on a lot of reasons, but leaves me with mixed feelings.
I’m not crazy about kissing our 3.65% 30-year fixed mortgage goodbye and taking out a new, higher one (side note: tried refinancing to an ARM a month an a half ago but was denied because I’d just given myself a fat raise and I’m majority owner).
I’ve gotten defensive with our investment portfolio over the last 3-6 months, so we’ve missed out on the most recent rally. That said, I’m not buying into the hype. Maybe I’ll regret it, but equities just seem extremely over valued.
The good news is we’ll get a nice chunk of cash from the sale of our house. We bought 3.5 years ago at $609k and I wouldn’t be surprised to see it go for $750k.
Houses in Ann Arbor, what we’re looking at, are in the $400-$500k range for double the space and a large lot. So we have the option of putting down a really fat downpayment or having some extra cash on hand.
I’m tempted to get an ARM and start building cash reserves like crazy. That’d leave me the option of taking advantage of a down turn in equities or real estate. If I’ve read things wrong and rates keep going up, I could always just pay our house down after 5 years.
I regret missing this run up in equities, sure. But our investment portfolio is still pretty limited. Most of our wealth is tied to our home and in my business. I’d welcome a downturn at this point.
Good to know. What are the reasons why you decided to go to Michigan of all places? The winters there are brutal. I’m on my last day of a 10 day offsite in Hawaii, and I’m dreading going back to the San Francisco winter. I can’t imagine going back to Michigan winter!
I regret not having as much in equities either. But the rest of my net worth is in my business and private equity, so hopefully those turn out OK.
Lots of reasons.
Winters in southern Michigan really aren’t terrible. I grew up near the tip of the mitt where they get nasty. But the south is relatively mild.
But why Ann Arbor, specifically?
1) The city is ~110k people and very diverse/liberal due to the University of Michigan. This is a big factor because, after all, we’re coming from the bay area.
2) The cost of living is much better. We want more space, and our current 1,555 sq ft town home isn’t cutting it now that we have a puppy and a 6-month old baby. Upgrading to where we’d feel comfortable would be ~$1.2MM — we can’t afford to do it. Moving will allow us that extra space so my wife can continue to stay home with our son.
3) My family is close by, about a 4-hour drive. My wife’s family is in SoCal, about 5-hours away, so this is a wash (although mine has been more involved/helpful since having our son). So we’re likely trading up here too.
4) Housing isn’t the only thing that will be cheaper. Groceries, gas, etc. are all 30-50% less than they cost here.
5) Our company is going fully remote, and I’m keeping my $150k salary. It’ll go much further in MI.
6) Ann Arbor has a huge park/natural area system. It’s amazing. I want my son to grow up more in tune with nature. It’s also more wholesome, and I want that upbringing for him.
In short, quality of life and cost of living (arguably the same). That’s not saying we won’t move back to CA someday, but this is the right move for us now.
Being able to keep your $150K salary AND work from home are great reasons. Hopefully you’ll feel less stressed. Cost is definitely way cheaper.
When I moved to the western part of SF, I started feeling rich! Haircuts, lunch, dinners, brunch, goods and services, and of course my house are literally 20% – 40% cheaper than just 2 miles east!
Good luck and enjoy!
Hi Sam,
So does this mean I won’t be seeing 2 for $2.22 Filet-o-Fish anymore? :-(
It’s nice to know the economy is doing well. The only drawback I see with the stock market being so high is for people who have a long way from retiring are buying stocks/funds at possibly higher prices. I remember when the Dow was in 6000 range in Spring 2009. If I could at that time, I would have maxed out my 401k….gimme more for less baby!
Not super great for me since I want to buy a property soon (last tried to buy Spring 16). But, you’re right, in the grand scheme of life I will earn far more from my properties than a .75% rate hike.
I’m more worried about inflation than rate hikes, although this one is bad timing for me since I’m trying to refinance after a divorce.
For me as an European investor having a large percentage of my investment in USD stocks, the rising stock market plus stronger dollar is a double win. I’m watching the US economy with great interest as it might be a good indication on what can we expect in Europe when the ECB also starts increase interest rates.
What I don’t really understand is that you’re expecting higher inflation and low unemployment which actually makes sense for me. In theory this would be a perfect environment for continuing stock price increases. At the same time you’re starting to build up a bond portfolio now when the prediction for next year is 3 more interest rate hikes and 3% prime rate by the end of 2018.
For me it looks like that it might worth waiting to buy US bonds; why is 2.5% still your magic number? Thank you in advance for explaining!
It does look ominous for bonds doesn’t it? The answer is multi-fold:
* Fed can hike rates, but bond yields may not rise any further (bonds may not fall any further) as the bond market discounts future Fed rate hikes. See the dynamics at work in this post.
* The yield curve could flatten, not steepen further
* I’m building a bond portfolio over the next three years, not one month
* I have enough “risk” exposure w/ equities, private equity, and my business.
Life is great right now! I am looking forward an interest rate hike. I plan on buying another property in the next year, but I expect mortgage rates to stay low for a little while so I’m not too concerned. Also, I expect as mortgage rates do rise, demand for real estate will cool off a bit driving the prices down. I’m more concerned with getting a good price on my property than I am with paying a slightly higher interest rate.
My stock portfolio has been booming (thank you Trump!), and I look forward to getting a higher return on my less risky investments. My net worth is a little less than half what I need to retire from this rat race, and I expect a booming economy will help me get there faster!
I’m also hoping that increases to interest rates cool off the housing market. Where I live, the real estate market has been crazy. Houses are selling for way over asking price before they even hit the market. We stopped looking because prices were getting way out of whack. Hoping a few interest rate hikes normalizes prices next year.
1. Is a record high stock market helping your wealth?
Yep. I’m heavily invested in stocks so the recent jump in the market has been good to me.
2. Is a bull market in real estate helping your wealth?
Yes, but not as much. I’ve begun investing in Fundrise. Outside of that, I don’t own any properties outside of my home.
3. Is a strong economy helping your wealth?
Definitely. It drives the stock market up and also allows my company to perform better which gives me a higher bonus at year-end.
4. Does a rise in the Fed Funds rate hurt your financing costs?
Nope. My mortgage is locked in. I’m ready for some higher deposit rates!
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Not for me. I’m still in the accumulation phase. I still have goals to continue diversifying into real estate through Fundrise and P2P lending through Lending Club. Those goals haven’t changed now that the Fed has raised rates.
6. Do higher rates help retirees or people who want to retire earlier?
Yes. It allows retirees to invest in safer assets, such as CDs and bonds, and earn a higher rate of return.
7. Does higher inflation help your wealth?
Yes, but again, not as much as I’m not heavily invested in real estate. But as inflation goes up that usually means the economy is humming which is good for me as I mentioned above.
8. Do higher interest rates make you want to save or spend more money?
Maybe if I were retired. As of now, it doesn’t change much for my plan. Just means that my relatively small amount of cash savings will start earning more interest if the Fed continues to hike rates.
I would like to see the Fed continue to raise rates in 2017 as that most likely means the economy is humming, but I’m not going to hold my breath. I think they continue to be very cautious and would be surprised to see 3 rate increases next year. If the over/under is 2.5, I’m picking the under, but would love to be wrong!
Wondering if now might actually be a good time to invest in real estate? I am thinking a condo on the gulf ;) Small rate hike+eager sellers=surplus housing and potentially some bargains. The Fed doesnt do anything fast so not sure all these rate hikes will materialize and the rates are historically still close to the bottom. I also dont think we are there yet in terms of surplus housing but could be 2nd or 3rd quarter next year. With the coastal areas cooling and housing having longer time on the market may be some opportunities. What do you think?
Check out this post: Take Advantage Of Unfair Situations
The time when i will seriously look for another property is during the winter of 2017/2018. Things take time to bleed and weaken. If the bond market continues to sell off and the Fed aggressively raises rates, they will choke of demand and it’ll be a boon for cash buyers!
Not afraid of the rate hike here either. To keep things in perspective, this increase is pretty small. We’re talking about basis points, not a whole percentage.
Im sitting in mostly cash in retirement in 2016 and in hindsight should have just invested it. Now deciding what to do with it. Im 41yo so wont need for while but equities in 6-7yr bull mkt now
If you’re in cash, it’s worth reading: The Case For Buying Bonds
Congrats on being retired at 41! Enjoy the good life.
Sam,
From a technical analysis perspective, we’re entering into a regime change in bond prices. Looks like some long term trendlines are being broken and the bottom is a ways off. Given this scenario, would it not be prudent to wait to invest in bonds?
Stocks is where the action is for the intermediate time frame.
If there is indeed a structural change in the 35+ year bond bull market, then yes, best to not buy all you can eat of bonds. Who knows whether the structural shift will happen, which is why I’m building my bond portfolio over the next THREE years. If you look at history, there are rate hike and rate lowering cycles over a 2-3 year period.
And if you can buy zero coupon bonds that pay back principal, then so be it. You won’t lose capital, you’ll just make less money.
I’m thinking about increasing my investment amount in Prosper to about 10 percent early next year. Trumps policies is going to cause massive inflation and higher interest rates. This is the best way that I can think of to capitalize.
30yr fixed rate mortgage at 3.375% for residential and also investment. Plus as Sam predicts with Uber/AirBnB/Palantir IPOs; the bay area RE will go nuts. What is not to like!
The resilience of the economy is pretty amazing right now. I’m not too concerned about the fed rate hike (or the projected increases in 2017). I know some people are afraid about the impact on the equity markets and the S&P did sell off a little bit after the fed announcement. However, rates are still low on a historical basis.
I would welcome any pull back in the equity markets to get a better buying price. For the time being, I’m investing at a slower rate while looking for any other interesting opportunities.
Awesome analysis like always!!! Sorry to hear the fed rate hike interrupted your beach time :)
The interest rate hike won’t change the way that I’m positioned. After the last downturn it was a huge wake up call for me and I set up my asset allocation to withstand both interest rates rising and a downturn.
Since I carry no debt and have my home paid off. In the next few years we may move but we have enough cash/stock to pay for a house outright if interest rates rise higher than we feel comfortable.
Yeah, I lost out on about 2 hours of team bonding beach time b/c I felt a sense of responsibility to write something about the Fed rate hike! Grr. I totally wanted to slack off and just publish two posts this week instead of three. I guess I can never fully escape the duty.
Well done being debt free. I was thinking the same thing. If rates rise so much as to choke off the consumer, I will raise cash to pay for the next house in cash if principal values decline enough.
Once again, the investors/savers win and the borrowers lose. It’s still a low interest-rate environment, but I have to think the people writing these articles about how the rising interest rates are going to negatively impact people are on the borrowing side. We have a low fixed mortgage rate and no other debt, so I’m not concerned at all about rate increases.
I can envision a scenario where higher interest rates could affect you negatively. Higher rates may impact the affordability of any house, should you wish to sell.
Maybe you don’t care but it is something to at least have awareness of.
This is the best possible scenario for me at the moment. I’m in the process of selling my house (with no plans to buy another one in the near future) and, anticipating a stock market downturn at in the next year or so am fully cash investments as an interim measure.
Once I sell my house I’ll have zero debt so higher interest rates will help my cash in the short term :)
Happily the low rates for the past five years have coincided with my home ownership as well.
1. Is a record high stock market helping your wealth?
No, I don’t own any securities. (Maybe I should start to diversify)
2. Is a bull market in real estate helping your wealth?
Yes. I own a portfolio of income producing RE in NYC which has had quite a run up. Prices are stabilizing and have been in general over the last year.
3. Is a strong economy helping your wealth?
Yes. The stronger the economy, the higher the employment. The higher the employment, the more money people have. The more money people have, which improves the finances of tenants and customers.
4. Does a rise in the Fed Funds rate hurt your financing costs?
Yes, I have mortgages on my properties and the payments may increase.
How a rate hike affects borrowers
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Yes. I will have to factor in rises interest rates whenever I analyze a potential investment from a cash flow/debt service perspective. This may further cap prices on income producing properties.
6. Do higher rates help retirees or people who want to retire earlier?
Probably if they have significant bond holdings that they depend on for income.
7. Does higher inflation help your wealth?
Yes/no. As an multi-asset owner, my assets are inflating with inflation. As a landlord, I have the option of raising rents to keep up with inflation or profit from inflation. However, it may make it difficult for investors who have been paying high prices for real estate especially in gateway cities at low cap rates. They will not be able to stretch as much.
8. Do higher interest rates make you want to save or spend more money?
Not sure, if my income is more stable and increasing, that determines if I can spend more money.
I’m not afraid of a rate hike. The bull market has boosted my almost all stock portfolio and the strong housing market has pushed up the value of my primary residence. I have no debt except for a mortgage which I refinanced to 2 7/8% earlier this year.
Life is good…
The rate change has no impact on my plans or current situation. I’m positioned such that my assets will inflate with the economy and yet nothing in how I currently fund my lifestyle is tied to markets. As such if the fed did somehow over cook it I’m still fairly insulated. Otherwise I continue to follow my investment plan, invest when I can according to my allocations.
1. Is a record high stock market helping your wealth?
Damn straight! All of my money is invested in a portfolio, of which 90% are stocks. Donald Trump has been a Godsend for us stock investors (so far!)
2. Is a bull market in real estate helping your wealth?
Nope, in fact living in Vancouver makes it almost impossible for me to own real estate and I certainly never would want to until it comes down significantly.
3. Is a strong economy helping your wealth?
Yes and no. A strong economy inevitably leads to a strong performance from your stock portfolio, but it’s not affecting my employment income in the slightest.
4. Does a rise in the Fed Funds rate hurt your financing costs?
No. I don’t have any debt and try to avoid it. If anything though it helps breing down house prices so that’s a bonus if I’m trying to enter the housing market in a few years.
5. Does a rise in the Fed Funds rate change how you plan to invest your money?
Nope! I’m a firm believer in picking a path and sticking with it. Jumping in and out of investments is a fools game.
6. Do higher rates help retirees or people who want to retire earlier?
Depends how you plan to approach receiving passive income in retirement.
7. Does higher inflation help your wealth?
Inflation generally means a strong economy, which in turn means higher company profits and thus higher stock prices. So, yes.
8. Do higher interest rates make you want to save or spend more money?
It changes nothing in terms of how I spend my money.
Thanks for sharing your thoughts. Your answer to #2 is a common irony many younger folks are experiencing thanks to a bull market. I remember someone telling me about 15 years ago regarding NYC and SF, as soon as you see an affordability window open, go through it. It may never open again.
Related: Buy Real Estate As Young As You Possibly Can
I agree with the sentiment of the Samurai here. It seems counter intuitive when all the prices keep rising but the sooner you get skin in the game the sooner you will start to win it.
Yes we all make mistakes sometimes and as such you should be reasonably cautious with all financial decisions. That being said you must be ready to pounce at good opportunities that stroll by.
Oh I will certainly be ready should the opportunity unfold to buy real estate here, I just don’t envisage that anytime soon. Perhaps in 3-5 years or so maybe. The house prices here are so out of touch with income it’s unbelievable. Canadian debt to income is considerably worse than the US which sparked the global financial crisis so I do feel this market has peaked.
Luckily the government seem to be doing their best to bring the BC real estate market down, which for folks like me waiting to get in is great news.