The future of interest rates …

Interest rates are a big deal for real estate investors … for many reasons.

The first and most obvious reason is because interest rates are the price of the money you borrow to invest with.  Higher rates mean higher payments and less cash flow.

Of course, even when you pay cash for your properties, your tenants probably carry consumer debt … car loans, credit card, and installment debt …

Higher rates mean higher debt payments for your tenants, so less of their monthly budget is available to pay you rent or absorb rent increases.

Also, your property values, exit options, and liquidity are all affected by interest rates.

Higher rates mean buyers have less capacity to bid up comparable properties … and fewer buyers can afford to buy your property when you’re ready to sell.

For these reasons and others, most real estate investors and their mortgage advisors pay very close attention to interest rates …  especially when financing or re-financing.

But there are other very important reasons for real estate investors to care about the future of interest rates …

Interest rates are a barometer for the health of both the currency and the overall economy.

Last time we looked, most real estate investors transact and denominate wealth in currency (dollars for Americans) … and your rental properties, tenants’ incomes, and overall prosperity all exist inside of the broader economy.

So the potential for big changes to either the currency or the overall economy matter to real estate investors just like they do to paper asset investors.

In fact, based on the amount of debt most real estate investors use, interest rates are arguably even MORE important to real estate investors.

We’re just a couple of days away from our Future of Money and Wealth conference … with nearly 400 people coming … and right now we’re thinking a lot about the dollar and interest rates.

Peter Schiff is speaking.  Peter wrote Crash Proof in 2006 and released it in 2007.  Back then, he loudly warned of an impending financial crisis whose roots would be in the mortgage market.

Sadly, back then we didn’t know Peter, and we didn’t read his book.  Then 2008 happened, and we were blindsided by the financial crisis.

So now we read more … a LOT more.

We make time to listen to people like Peter Schiff, Robert Kiyosaki, and Chris Martenson.  And we work hard to share them with our audiences.

A very interesting book we just finished is Exorbitant Privilege by Barry Eichengreen.  He’s Professor of Political Science and Economics at Cal Berkeley.

Eichengreen published Exorbitant Privilege in 2011, which means he probably wrote it in 2010.

Keep this in mind as we share these prophetic excerpts from Chapter 7, “Dollar Crisis”…

“What if foreigners dump their holdings and abandon the currency [dollar]?  What, if anything, could U.S. policymakers do about it?”

“It would be nice were this kind of scenario planning undertaken by the Federal Reserve and CIA … it would have to start with what precipitated the crash and caused foreigners to abandon the dollar.”

Note:  Eichengreen probably didn’t know at the time that James Rickards, former attorney for Long Term Capital Management (the hedge fund at the center of the near financial meltdown of 1998), was participating in precisely this kind of planning, which Rickards describes in his book Currency Wars, published a year after Exorbitant Privilege.

Back to Eichengreen’s prophetic 2011 commentary …

“One trigger could be political conflict between the United States and China.  The simmering dispute over trade and exchange rates could break into the open …

“… American politicians … could impose an across-the-board tariff on imports from [China].”

WOW … Eichengreen wrote that at least 7 years before this March 22, 2018 headline from CNBC:

Trump slaps China with tariffs on up to $60 billion in imports: ‘This is the first of many’

Back to Eichengreen in 2011 …

“Beijing would not take this lying down.”

CNN Money on April 3, 2018:

China to US: We’ll match your tariffs in ‘scale’ and ‘intensity’

Eichengreen in 2011:

“Or the United States and China could come into conflict over policy toward rogue states like North Korea and Iran.”

If you’ve been following the North Korea drama, you probably know this one’s been back and forth.

Last summer, China seemed to side with North Korea.  Then they tried to take a neutral position.

But recently Kim Jong Un paid a secret visit to China.  Of course, no one really knows what that was about.

But based on recent trade policy it seems the U.S. isn’t sucking up to China for help with North Korea.  So maybe the U.S. and China disagree on North Korea?

Now STAY WITH US … because the point of all this is … according to Eichengreen …

China’s relationship with the United States and the U.S. dollar has a DIRECT impact on the future of YOUR money, interest rates, and wealth.

And if you’re like most Main Streeters, you may not completely understand the connection …

… just like we didn’t understand what Credit Default Swaps had to do with our real estate investing in 2008 … until everything suddenly imploded …

… despite reassurances from the wise and powerful man then behind the curtain of the Federal Reserve, Ben Bernanke.

And the point here isn’t Iran, or North Korea, or tariffs, or trade wars … it’s about whether China gets upset enough with the U.S. and opts for the nuclear option …

Eichengreen in 2011:

“… China [could] vent its anger and exert leverage … by … dumping [Treasuries] … would send the bond markets into a tizzy … interest rates in the United States would spike.  The dollar would crater … could cause exporters, importers, and investors to abandon the dollar permanently.”

Obviously, there’s a LOT more to this topic than we can cover today.

Our point for now is that way back in 2010-11, Eichengreen envisioned a scenario in which conflict with China could create a dollar crisis.

As you can see, today’s headlines are living out his concerns.

When you read Eichengreen, like Jim Rickards, he talks about things reaching a tipping point … where everything happens fast.

We lived that in 2008 and it was NO FUN.  But that was only because we were on the wrong end of it.  While we got slammed, others made fortunes. They were informed and prepared.  We weren’t.

So be cautious of normalcy bias and complacency when it comes to contemplating the possibility of a dollar crisis.

Better to be prepared and not have a crisis … than to have a crisis and not be prepared.

Until next time … good investing!


More From The Real Estate Guys™…

The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training, and resources to help real estate investors succeed.

Cash flow controls while equity happens …

As the end of 2017 approaches, it’s a great time to reflect on the past year as we prepare for the new year ahead.

In this case, we thought it might be fun to look back an entire decade … and consider where things were in 2007 and where we are today.

Way back in 2007, the world was slowly sliding towards the greatest financial crisis in most people’s lifetimes.  We just didn’t know it.

And who could blame us?

After all, the world’s most powerful banker at the time … the wise and powerful Ben Bernanke, then-Chairman of the Federal Reserve Bank of the United States …  gave a reassuring speech on May 17, 2007 …

“… we believe the effect of the troubles in the subprime sector on the broader housing marketing will likely be limited, and we do not expect significant spillovers from the subprime market to the rest of the economy or financial system.”

Of course, today we know the economy went over the cliff less than a year later.

So now, it’s 10 years later and where are we at?

According to this Bloomberg article …

Home Prices in 20 U.S. Cities Rise by Most Since Mid-2014

Eight cities have surpassed their peaks from before the financial crisis …”

“… growth in property values has been consistently outpacing wage gains, crimping affordability … That could eventually become a headwind to faster price appreciation.”

But why worry?

After all, as recently as June 2017 … just about 10 years after Ben Bernanke’s speech … CNBC reports these comments from current Fed chair Janet Yellen:

Fed Chair Janet Yellen said Tuesday that banks are ‘very much stronger’ and another financial crisis is unlikely anytime soon.”

“She also made a bold prediction: that another financial crisis the likes of the one that exploded in 2008 was not likely ‘in our lifetime.’”

And this more recent Bloomberg article reports additional reassurances from Ms. Yellen:

With stocks trading at record highs, Yellen downplayed the threat of financial instability.”

In fact, Bloomberg quotes Ms. Yellen:

Although asset valuations are high by historical standards, overall vulnerabilities in the financial sector appear moderate, as the banking system is well capitalized and broad measures of leverage and credit growth remain contained …

Kind of reminds us of Han Solo in the original Star Wars …

Everything is under control. Situation normal. Had a … malfunction. But uh, everything is perfectly alright now. We’re fine … how are you?”

So what can we glean from all of this?

First, just because PhDs say everything is hunky dory doesn’t mean it is … or it isn’t.  So don’t lose sleep … or sleep too soundly … because of academic or political financial rhetoric.

Jim Rickards told us the Fed is clueless and history seems to affirm this.

But in spite of the sub-prime contagion and subsequent financial crisis … including a horrific stock market crash … after 10 years, real estate in most markets has come back.

In fact, many people made lots of money on real estate from 2008 to present.  So a crash is nothing to be afraid of … IF you’re structured to survive it … and profit from it.

The two biggest lessons about surviving come from real estate guys Robert Kiyosaki and Donald Trump.

Kiyosaki stresses the importance of cash flow.  That is, holding properties which produce positive cash flow so you can hold on to them through a severe downturn.

Donald Trump told us to always have some cash on hand.  It’s hard to put out financial fires or go bargain shopping when you have no liquidity.  And when credit gets cut off, cash is the best form of liquidity.

Of course, both those guys made a ton of money on equity.  But … it’s cash flow that allows you to control a property until equity happens.

And it’s cash that lets you buy properties when everyone else is dumping them to raise cash fast.

It’s not really complicated.  And the longer you live, the more obvious it is.

Because, as they say … history may not repeat itself, but it often rhymes.

Until next time … good investing!


More From The Real Estate Guys™…

The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training, and resources to help real estate investors succeed.

Mortgage rates rising at record pace…

Well, that didn’t take long…

We recently alluded to the possibility of rising rates…whether the Fed raised them or not.

Then lo and behold, this headline popped up in our news feed:

Treasury Yields, Mortgage Rates Rising at Record Pace

Of course, rates are still crazy low.

But the move is noteworthy… beyond the obvious impact on the cost of the debt we use to acquire real estate and reposition equity.

The REAL Problem with Rising Rates

So what if interest rates rise?

It’s complicated, but important. Because the debt markets (bonds and their derivatives) are BY FAR the largest financial markets in the world.

The problem isn’t simply borrowing costs. It’s what rising rates due to big players’ balance sheets… and what that means to Main Street investors.

Famed bond fund manager Ray Dalio recently suggested that just a 1% rate increase could destroy over $2 TRILLION of balance sheet wealth.

In fact, without ANY move from the Fed… $1 TRILLION in wealth disappeared right after the election.

How can this happen? And how does it trickle down to Main Street?

Bond… Licensed to Kill

Remember two basic concepts:

When bond values go down, interest rates go up… and vice versa; and…

When bond values go down, anyone holding bonds as an asset, sees their net worth go down.

The latter is arguably the BIGGEST THREAT to your portfolio… not necessarily because YOU own bonds, but because of how bonds affect the financial system your investments float in.

The Daisy Chain

Many players in the paper markets borrow against their bonds the way you borrow against your real estate.

The loans they take out become their liability just like your mortgage becomes your liability.

But that same loan also becomes the lender’s asset, just like your mortgage becomes your lender’s asset.

Make sense?

When you get a bunch of players in the market all borrowing against bonds to create new bonds… that the next guy borrows against, you have a daisy chain of counter-party risk. Counter-party risk is when one person’s asset is another’s liability. If the person owing goes bust, the value of the asset collapses.

Think of a group of mountain climbers all chained together hanging off a cliff. If just ONE person falls, it’s a problem for EVERYONE.

Growing Debt Means Rising Prices

All this borrowing creates purchasing power, which pushes asset prices UP.

It’s just like when a college student gets a student loan. It pulls their future earnings into the present and bids UP the price of college today.

Debt doesn’t make things cheaper. It makes them more expensive.

As these bonds and derivatives (debt) are created, the excess purchasing power has been recycled into even more bonds and derivatives in a vicious cycle of exploding debt.

Observers are watching consumer price inflation (CPI) and conclude “inflation is stubbornly low”.

Maybe consumer inflation hasn’t happened…yet. But bond price inflation sure has.

Rates Went Down, Down, Down and the Bonds Went Higher

Because as debt begat debt begat debt, all that purchasing power bid UP the price of bonds, driving yields (interest rates) DOWN.

But after going down for over three decades, interest rates have hit “the zero bound”.

In fact, in several countries, bonds have been bid up into negative yields… for the first time in history.

Seems like rates don’t have much of anywhere to go but up… which means bond prices don’t have much of anywhere to go but DOWN.

This is where it gets messy…

I Owe You, You Owe Me, We Owe Them and We’re in Debt Together

Congratulations. You’re really a hardcore newsletter reader. Thanks for getting this far.

Because here’s the TICKING TIME BOMB in the financial system…

If rates go up or bond prices go down, then the daisy chain of counter-party risk starts to implode across the too-big-to-fail players’ balance sheets… taking asset prices with it.

Read that again and be sure you’re tracking.

Because here’s the fuse…

Your Margin’s Calling

When a bond pledged as collateral in these paper derivative markets falls too far, the borrower gets a margin call.

So the borrower needs to put up cash or risk having the collateral (their bonds) sold into a falling market.

This puts a nasty dent in the borrower’s balance sheet.

If this only happens to one player, no big deal. But remember, all these players are daisy chained together.

Call the Doctor… I Think I’m Gonna Crash

When bonds fall, everyone margined needs to come up with cash fast to meet their margin calls.

Wide scale margin calls suck cash out of the system. Lots of it. Economic activity slows way down.

For players who aren’t sitting on enough cash to make their margin calls, they’ll need to sell assets into an already falling market. This is like pouring gasoline on a fire.

That’s because if everyone is short of cash, who can buy the assets?

If the cash crisis is bad enough, the markets go “no bid” and prices fall faster and farther which compounds the problem.

All the daisy chained balance sheets start to implode… pulling the next one with them into a black hole.

Bad scene. This is what happened in 2008.

Is the REAL Crash Still Yet to Come?

Money manager, best-selling author, financial pundit and Summit at Sea™ faculty member Peter Schiff, predicted the 2008 disaster in his 2006 best-selling book Crash Proof.

Peter says none of the fundamental problems which caused the 2008 crisis have been fixed. In fact, Peter says, they’ve gotten worse… and The Real Crash is yet to come.

Last time, central banks printed TRILLIONS to buy the “toxic assets”… putting a bid in a no-bid market. This stopped the free fall.

But that exploded the Fed’s balance sheet from around $800 billion to nearly $5 trillion, where it is today.

Smart guys like Peter Schiff and Jim Rickards don’t think the Fed can do it again without destroying the dollar and causing hyper-inflation. That’s why on our last Summit at Sea™, both advised our Summiteers to hold some gold.

The Role of Real Estate in a Safe Haven Portfolio

You’ve read ALL this way… so before you go full fetal… remember GREAT FORTUNES were made in the wake of the crash.

Properly structured and liquid investors went on the shopping spree of a lifetime.

Income producing real estate is arguably one of the BEST havens in ANY storm. We’re planning a future episode to discuss this very topic.

A New Sheriff In Town

Headlines are currently dominated by all things political. It’s tempting to get caught up in that. Be careful.

While the U.S. switches out the Presidency, we choose to focus on things we can control. Like our own education for effective action.

The moral of this story?

Study. Network and converse with smart people. Be proactive with your portfolio.

We say “Plan and Do” is better than “Wait and See.”

Until next time,

Good Investing!

More From The Real Estate Guys™…

The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training and resources to help real estate investors succeed.