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Hot Hike Summer

It’s hard to believe we’re only four hikes and just over four months into this hiking cycle. Yesterday, the Federal Open Market Committee raised its target policy rate by another 75 basis points to an upper bound of 2.50%. It was a widely anticipated move. As usual, the real news was in Chairman Powell’s comments after the announcement as markets tried to decipher what the path forward looks like.

The stock market liked what it heard. I think the right thing to do is to continue focusing on inflation as the main enemy, but the reaction in both the S&P 500 and the Nasdaq struck me as outsized positive moves given the Fed’s clear commitment to hiking further. I won’t be surprised if we give some of it back in the next couple days — after all, markets do tend to overreact in the short-term.

However, I do think this is the last 75 basis point move we see out of the Fed, and markets may be readying for a more gentle hiking cycle into the fall.

Resolve Reiterated

Despite increasing fears of recession and many wondering whether a recession would slow the Fed down, Jerome Powell reiterated that they still have the tools and the resolve to bring prices down. He even pointed out that the tightening in financial conditions driven by the Fed hikes is likely to include below-trend economic growth and some softening in labor market conditions.

What I heard was, regardless of the collateral damage that could result from rate hikes, it won’t stop the Fed from charging forward.

Good. It shouldn’t, in my opinion. The whole goal of this process is to create slack in the economy that alleviates the upward pressure on prices. Slack leads to less demand, which leads to cooler inflation.

This is Tackle, not Touch

I also heard in his comments that there’s a bigger risk in doing too little, than in doing too much. Fighting inflation is a full contact sport and the level of slowdown that needs to happen in order to get it back in check is a level that will inevitably be felt by everyone.

The main question that remains is whether a deep and painful recession will result. My take at present is that inflation will cool in coming months enough to satisfy the stock market and allow it to find some upside. Economic and earnings data is also likely to show further signs of slowing, which could give the Fed clearance to reduce the size of hikes come September. Another “positive” for the market in the near-term.

What keeps me up at night is the possibility that inflation stays with us into 2023 and causes a recession that brings with it job losses and demand destruction for some time. The 2s/10s spread alone now clearly signals a recession could hit us in the next 6-18 months. Until we know more about that possibility though, I think investors may enjoy a market that grinds higher from here to the end of the year.

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The news that U.S. inflation has hit 7% not only makes people recoil at the sticker shock at the gas pump and in the grocery-store aisles but also leads to some questions about what’s the best housing option right now, buying or renting.

Although to some, it’s more what is the least painful option than what is “best.”

Buying a house has deterred some budget-minded people since the pandemic sent real estate into a frenzy. While the market isn’t as red-hot as it was a year ago, it still seems like a seller’s market. However, taking a wait-and-see approach on buying may no longer be the safer choice, with worrying inflation-fueled increases in rent.

How Does Inflation Affect Rent?

Inflation itself is not considered a bad thing by analysts. The Federal Reserve believes that its 2% target inflation rate encourages price stability and maximum employment. However, 2% is not where the U.S. is at.

Regarding the rise in “shelter” costs shown in the latest Consumer Price Index, it may be bad news but it’s not surprising news. Anyone who has a landlord is aware of the trend. A study showed rents for a one-bedroom jumping an average of 11.6% in 2021 and the average two-bedroom going up by 13.6% over the same period, according to Fortune.

The rent increase is … complicated. Increases are believed to be driven in part by a scarcity of supply. During the pandemic, when houses were being snapped up, properties for rent were converted into properties that could be sold (or turned into Airbnbs), particularly outside cities and in places attractive to the “laptop class.”

Another factor: Landlords who held back from increasing the rent through 2020 and much of 2021 are now trying to recover their losses. That could be why new leases are showing such sharp increases.

Of course, some people are more than satisfied with renting regardless. To make the best of things, they’re launching rental-friendly updates or renovations, many of them budget-friendly too. While rising food and fuel costs definitely put the pressure on, these folks are working to keep their rent expense at the desirable percentage, which is no more than one-third of take-home pay.

The Advantages to Buying a House

In 2020, stories circulated of frenzied bidding wars for houses. Hours after a property went on the market, buyers were offering figures way over the asking price. To some degree, these days are over. For one, a great deal of desirable stock is gobbled up. Supply-chain issues and labor shortages have slowed down new construction.

Where does this leave first-time home buyers? Danielle Hale, Realtor.com’s chief economist, told The New York Times last August that there are more entry-level homes for sale. “I still wouldn’t say those homes are plentiful, but there’s more of them for sale now than there was a year ago,” said Hale.

The inflation spike – one that’s seeing prices rising at their fastest pace in 40 years – is leading some people to say buying real estate is the smart move. A flurry of headlines over the last few months remind us of the adage “real estate is a hedge against inflation.” This means for someone considering selling their house, the temperature could be warmer than ever.

As for buyers, interest rates have stayed near zero throughout the pandemic. This definitely encourages more applications for mortgages and refinancing.

The question is, what will happen if the Fed raises interest rates? Fed Chairman Jerome Powell recently indicated the central bank could raise interest rates this year as the U.S. economy didn’t need emergency support any longer.

If that happens, it’s possible that mortgages could have more issues, say some observers. But others say higher interest rates could lead to demand for new housing, and a very welcome boom would begin.

The Takeaway

A 40-year high in inflation spells bad news for renters, since a rise in “shelter” costs is prominently mentioned in the new Consumer Price Index. The time may be right for buying a house, with interest rates remaining low and the red-hot real estate market cooling a bit.

Explore competitive mortgage rates and learn about the new flexible terms and down payments as low as 3% for first-time homebuyers.

Photo credit: iStock/Shutter2U

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Regardless of the collateral damage that could result from rate hikes, it won’t stop the Fed from charging forward.

After the Fed enacted yet another rate hike, what does that mean for your finances? It’s a good time to check your statements.