Realty411 Magazine The Best of Realty411 - Learn from Our Past Issues | Page 16
I
n this article we’re going
to take a look at how
real estate performs in
various macroeconomic
climates.
If you’re following the
news and the actions of
not only the US government but
most of the major governments in
the world, then it is very reasonable,
maybe even a foregone conclusion,
that we are headed for massive
inflation in the not too distant
future. If things get even more out
of control we could even experience
hyperinflation. On the other hand,
a case can be made that we’re
heading for massive deflation, just
like in the Great Depression.
It is out of the scope of this
article to go into details on the
factors leading to these two
scenarios. However, if you are a real
estate investor, or are considering
investing in real estate, then it is
important to understand how real
estate investments perform
in each of these two scenarios.
What happens in periods of
high inflation? The purchasing
power of the dollar declines. As a
result, creditors are getting paid
How Real Estate
Performs in Times of
Inflation &
Deflation
By Lori Greymont
back in dollars that are worth less
then they lent out and as a result
they raise interest rates. Creditors
like interest rates to be a few
percentage points above inflation.
So let’s use some numbers as
examples. If inflation hits 12%,
then interest rates could easily go
up to 15 to 20% so creditors can
make money. But at 15% the cost
of a mortgage skyrockets and most
people can’t afford to buy a home.
This happened in the ’70s and
many other times in history.
As fewer people qualify for
mortgages, rental demand increases
and rents go up. Rental property
owners, especially those with fixed
interest rate mortgages, receive
higher rental income while their
biggest expense stays fixed. Thus
their cash flow increases.
One important note here. In times
of high inflation, properties with
shorter rental periods generally perform
better so residential rental property
with 6 to 12 month leases are a good
bet. Commercial rental properties
such as office complexes and shopping
centers, which often have 5 to 10
year leases can actually see cash
flow go down as expenses such as
utilities, insurance, maintenance,
etc., increase while rents are flat.
How is appreciation affected by
periods of inflation? During times
of high inflation, the cost of the
raw materials needed for new
construction increases, which also
directly affects overall property
prices. As the costs of materials,
labor, and legal rise,
prices of existing properties are
positively impacted.
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