5 Reasons Why Rising Interest Rates are a Good Thing for Condo Investors
The Bank of Canada has been slowing but surely increasing interest rates over the last year leaving some condo investors wondering if the party is over. Is the market about to crash? Should investors be worried? Quite the contrary. Find out why rising interest rates are actually a good thing for condo investors on today’s episode.
Andrew la Fleur: On today’s episode, I’m going to give you five reasons why higher interest rates are good for condo investors. Stay tuned.
Welcome to the True Condos Podcast, with Andrew la Fleur, the place to get the truth on the Toronto Condo Market, and condo investing in Toronto.
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If you’re new to this show, once again, my name’s Andrew la Fleur, I’m a Realtor, I’m the Founder of truecondos.com. It’s a website and a valuable resource for all things condo investing in Toronto and beyond. So if you’re interested in learning about investing in condos, if you’re interested in making more money investing in condos, if you already are an investor, then this podcast if for you.
So as I said in the intro, I want to talk to you about interest rates today. Obviously, the Bank of Canada is in the, as of time of recording this podcast, which is October 2018, end of October, they just raised interest rates another quarter point, and they have been raising them for about a year or so. A number of increases have happened, and they’ve indicated that there are more increases to come.
So this, naturally, raises the question and I’m getting this from time to time more often these days is, “Andrew, what’s going on with interest rates? Is this, should we be concerned? It’s getting more expensive to get a mortgage. Is this a good time or a bad time to invest in condos? Is the sky falling? What’s going on?” So just wanted to give you and everybody a reality check of what is happening.
Because the tendency seems to be when interest rates are going up, there’s a little bit of panic out there in the marketplace with some people thinking that, “This is a bad thing for investing in real estate, and investing in condos when interest rates are going up. That this is a sign that, if interest rates are going up, then things, the market’s going to go down,” something along those lines. Reality is, nobody knows what’s going to happen to the market.
Nobody knows what, how things will actually play out, what the future will hold. Whether real estate is going up, or whether it’s going down, whether rents are going up, whether rents are going down in the short-term. In the short-term, we really have no idea. In the long-term, we can surmise with a great degree of certainty, based on many decades of history, that real estate values in Toronto will continue to go up in the long-term.
But a lot of people panic when they think about what’s happening in the short-term, or they’re very reactive, as opposed to taking a long-term approach, and understanding that real estate fundamentals are very strong and will continue to be strong over the long-term. And if you’re investing for the long-term, you’re always going to do well.
But the tendency, of course, for most people, is to think, “What’s right in front of me today, tomorrow, next week, kind of thing,” and not thinking in … Thinking in decades, as I’ve talked about in this podcast in the past. Learn to think in decades, not in days, months, or years. But the reality is, rising interest rates are actually a good thing, and I want to tell you five reasons why that is.
So a lot of people think, “Well, dropping interest rates, that’s what I want to see, right. If interest rates are dropping, then money is becoming cheaper, mortgages are cheaper than … I can get more mortgages. I can buy more property.” That’s generally sort of the thinking is, “Oh, wow. It’s cheaper for me to now go out there and get a mortgage or get some money, borrow some money to invest.”
If the cost of money is going up, people have a natural tendency to think that’s bad. But, no. It’s not. And there’s, again, we don’t know what’s going to happen in the economy. We don’t know which direction things are going. I mean, economists, whatever they’re telling you is going to happen is a very good strong degree of certainty, that whatever they say is going to happen is not going to happen because they’re wrong 60% of the time or more. But here are five reasons why I believe, in my opinion and from my perspective on the market from doing this the last 12 years, is that higher interest rates are actually good for condo investors.
The first reason is that higher interest rates, rising interest rates, means that the economy is strong. I mean, this is something that, it almost goes without saying. But at the same time, so many people seem to be forgetting the fact, one of the main reasons, the reasons why the Bank of Canada may lower or raise interest rates, but one of the fundamental and primary reasons why interest rates generally will be raised by the Bank of Canada, is because it means the economy is strong.
Remember, they’re trying to combat inflation. If things are going really well, if the economic engines are spinning faster and faster, then the Bank of Canada is stepping in and saying, “Let’s raise interest rates to effectively slow it down a little bit. Things are going too well.” They don’t want inflation to get too high, so again, that’s why they are rising, they’re raising the interest rates.
If the economy is strong, if the economy is getting stronger, this is the number one most important factor that you care about as a real estate investor. Put everything else aside, the number one thing that’s going to affect the strength or weakness of a real estate market is the economy that the market is in. So if the economy of the market is strong and getting stronger, and as a response, the Bank of Canada is raising interest rates, that is a good thing for you, as an investor in that market.
You’re investing in the real estate market, you’re investing in condos, specifically, and in a strong economy. And when interest rates are rising, that means the economy is strong. That’s good. If the economy is strong, more jobs are being created; more jobs are being created, more wealth is being created; more wealth is being created, more people are going to be buying real estate. So rising interest rates, strong economy. It’s a good thing.
Number two, rising interest rates means that inflation is coming, or it’s already here. Again, we talked about this a little bit already, but inflation is a good thing. If you own assets, inflation is a good thing. Asset owners love inflation. When there’s inflation, generally speaking, the value of assets is going to go up.
So if you own assets, whatever they may be, but in this case real estate. If it’s in a time of rising inflation, that’s generally going to be a good thing to own. So inflation, again, is good for you, as a real estate investor over the long-term. The last thing you want is deflation. The last thing you want is things going in the other direction in a general sense. So that’s number two.
Number three reason why higher interest rates are good news for condo investors, is that rising interest rates, when the Bank of Canada raises interest rates, it means, generally speaking, it means that they’re doing it because they want to decrease the chances of a market crash, of an economic, a major negative economic event. Again, pouring cold water on a hot fire sort of analogy, right. So you don’t want the fire to get too hot and too out of control.
So that’s what the Bank of Canada’s doing when they’re raising interest rates, is they’re saying, “You know what? The economy is heating up, it’s picking up speed, it’s getting faster and faster. We like it to go fast, but we don’t want it to go too fast.” And so rising interest rates, if the Bank of Canada just sits there and does nothing, then it increases the chance of the economy getting ahead of itself too fast, and there would be some kind of a major market crash, or negative economic event.
So rising interest rates, again, it means that we are decreasing the chances of that sort of an event happening. And, of course, as real estate investors, being tied to the economy, fundamentally, as I said, that is a good thing for us. A slower real estate market and a slower economy, in general, based on where we are today, is not a bad thing. Especially if you look at, let’s take a look at the condo market, in particular. Condos have been appreciating at a double-digit pace now for a couple of years.
So 10, 15, 20% appreciation, month-by-month, over the last couple of years. So that is not sustainable. That is not … It’s fun while it’s happening, and it’s exciting, and you’re looking at your balance sheet as an investor, and you’re looking at your portfolio over the past couple years. And you’re going, “Wow, I’m making so much money. I mean, this is phenomenal.” But again, as I’ve said time and time again in the podcast over the past couple years, don’t get used to this, condo investors. Focus on the long-term.
You focus on the long-term, you realize that you should expect appreciation over any 10, 15, 20 year period to average in the GTA, based on historical numbers. To average around five to six percent. That is a normal sort of appreciation rate over time. And, of course, as investors, when you’re leveraged, your actual return on your investment is much, much higher than five or six percent, which is one of the pillars and beauties of real estate investing, is the aspect of leverage over time. But, nevertheless, if you’re sitting at 20% appreciation, which we’ve been at, and now we’re currently somewhere around 10-ish, 12-ish%, still way above historical norm.
So you can expect that over time, you’re going to have slower years, you’re going to have faster years. You can have ups and downs. But over time, it’s going to balance out to around five to six percent in the long-term, as an average yearly appreciation rate. So the days of 10, 15, 20% are numbered, right. We’re not going to stay, it’s not going to just keep appreciating at 10, 15, 20% year, after year, after year. That’s not sustainable at all.
Things will revert back to the mean at some point, so enjoy it while it lasts, don’t get used to it, and just remember, that over the long-term, you’re looking at five to six percent. Don’t worry about the year-to-year, stay in the markets for, think in terms of decades, and think of in terms of how long you’re going to be in the market in terms of decades, not in terms of year-by-year. And that’s going to be the best mentality and approach to take.
So less likely that there’s a market crash, more likely to cool things down a little bit, and bring us back to reality, which is a good thing. We don’t want, obviously, to see a market crash. We don’t want to see prices go down. But we wouldn’t mind, as investors, to see prices sort of retreat down. Price appreciation, I should say, retreat back down to sort of more historical norms, even though it is fun to be riding the wave here at 10%-plus. It’s just not meant to be, it’s not going to continue like that. It shouldn’t. Otherwise, it just increases the chance of a crash.
So number four, point number for why higher interest rates are good for condo investors, it means that when interest rates go up, it means that money becomes more expensive to borrow. It means, it’s harder to qualify for a mortgage. Every time that rates go up, means a few more people cannot qualify for a mortgage. You may say, “Well, Andrew, that’s bad. If less people can qualify for a mortgage, then they’re not buying our real estate.”
“And if less buyers out there buying real estate, then real estate prices may slow down.” Yes, that’s true. But, those people still got to live somewhere. What do they do? They don’t live on the street, they rent. So higher interest rates means more renters. If affordability and mortgage rates are going up, that means, less buyers now, today than there were yesterday if interest rates go up.
So what happens to those buyers? They turn into renters. What happens to the rental market? The rental market, there’s more heat and pressure on the rental market, and rental prices continue to rise. So it’s very interesting, whether interest rates are going up or down, whether the economy is hot or cold, if you own the asset, generally speaking, you win.
Whether prices are going up, or whether rents are going up, or in some cases, both are going up, either way, you win as the real estate investor. When you own the asset, you win. That’s what I’m just going to keep pounding into you, time and time again. You want to own assets, hold on to assets, don’t sell assets, hold on to them for the long-term. You’re always going to win, whether it’s up, down, left, right, he who owns the asset wins. So own as many assets as you can.
Number five is, what’s interesting, sort of a counterpoint to number four, higher interest rates means more renters. What’s also interesting is, and sometimes we’ve seen this before, it’s contradictory, but it’s also can be true, as well. Higher interest rates can actually lead to higher demand for condos, for real estate, from buyers. Why is that? Well, it’s a physiological sort of reason, and that is, if the cost of money is going up, if people are perceiving that interest rates are going up, what it does, is it pulls demand forward, okay.
So it pulls, if you think interest rates are going to be higher next year, money’s going to be more expensive, mortgages are going to be more expensive year, or next month, or six months from now, you’re going to be more likely to … And if you’re thinking about purchasing, you’re going to be more likely to purchase sooner, rather than later. It sort of accelerates your purchasing decision. It pulls that demand, future demand forward because people are trying to beat the rush, beat the … Get in before the price increase, so to speak.
So it can actually … Rising rate environment, in a weird way, can actually increase demand today for real estate, which actually pushes prices up. People rushing into get in before money becomes more expensive. So it also can have that affect, as well. Food for thought. Again, it’s more of a psychological aspect of it is people thinking, “I need to get ahead of this. I need to get in now rather than later.” But that can also be true, as well.
So those are five reasons there why it’s actually good. So how is it actually bad? You may, “Andrew, okay. I get your five points. It makes sense. But, I mean, let’s play the other side of the coin. Like, I mean, how can this actually be bad for us, as condo investors? I mean, there’s got to be, you can’t just say it’s all good news. Like money is getting more expensive.” Yes, that’s true. If you are going to get a mortgage today, it’s more expensive than it was to get that mortgage yesterday if interest rates are going up.
So if you’re looking for a mortgage today, yes. On the surface you might say, “Well, this rising interest rates are bad for me, as an investor, because I need a mortgage today. I bought this condo a few years ago. I need to get a mortgage today. If I had got it a year ago, my mortgage would have been less. So it’s bad for me, right?” Well, yes and no. I mean, the reality is, you might be paying a little more interest on your mortgage, on your property. But your property has also appreciated, and rents have appreciated more since the last time the interest rates were less.
So, again, it’s sort of a chicken and an egg thing, right. The interest rates are a symptom of a hot economy. If the economy is hot, interest rates go up. That’s a signal to you. Every time interest rates go up, you, as the asset owner, that’s a signal. It should be a signal in your brain that you just made more money. Or, it confirms the fact that you already made more money in the last period of time.
Because rising interest rates, booming economy, growing economy, growing asset prices, Bank of Canda looking to slow that process down, it’s an indicator to you that you have already made money, and you’ve already grown, your wealth has already grown, leading up to that point. So yes, you’re paying a little bit more today, but the reason is because the asset, itself, has gone up in value. The rental price has gone up in value, as well.
So yes, it is. On the surface, it’s costing you more money, but the reason is because you’ve made more money. It’s kind of like people complain about paying taxes. I just had this conversation yesterday with somebody. “Well, if I buy this condo, then I’m going to have this big capital gain tax to pay in the future.” It’s like, remember, paying capital gains is a good problem to have, it means you made money, right. Making money is the goal here. So it’s sort of the same sort of concept. Rising interest rates is the cost that you pay for making money, and for making the value of your portfolio, and your assets increasing.
And always remember at the end of the day, again, flipping the coin completely on this conversation. The opposite, lowering interest rates is a sign of a bad economy. So if you’re sitting there cheering, and hoping, and waiting for interest rates to come down, well, whenever they do start to come down, again, it’s a symptom of a slowing economy, which generally speaking, we don’t want to see as real estate investors. We don’t want to see a slowing economy. We want to see a growing economy. We want to see growing wealth. We want to see growth in jobs, growth in wages.
We want to see some inflation, but not too much inflation. That’s a good thing for us, as real estate investors, we want to continue to ride that wave over time as much as possible, knowing that there’s always ups, and there’s always downs in every market. If we’re in it for the long-term, we’re going to do well, and we’re going to grow our wealth, and we’re going to make lots of money. And historically speaking, real estate is the best asset class, the most historically proven asset class that you can grow your wealth through, and it’s available to anyone and everyone. Almost like magic, real estate is a fantastic thing.
So keep investing, keep making smart decisions, keep buying for the long-term, and I hope you found this podcast useful, today’s episode. If you did, go ahead and share this with somebody that you know, who you think could benefit from it. And until next time on the show that we talk again, happy investing. Have a great week.
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