The yield on the 10-yr U.S. Treasury spiked to 3.03% two weeks ago (4-25-18), breaking a decade long downtrend. This highlights a major problem (or achieving a solution if you’re the Fed) – inflation is back. As Bloomberg noted that morning, something even more foreboding is the move in short term rates, up, which according to them, is flashing a warning signal about the economy. The increase in the 2-yr rate to 2.49% is the highest yield since 2008, along with the 1-yr rate up to 2.25%, also the highest yield in a decade.
Increases in the short end of the yield curve without a proportional increase in the long end produces a flattening yield curve – historically associated with recessions, or at least a pause in economic growth. What usually isn’t mentioned, however, is the timing of the pause … lag time historically has been 1 ½ – 2 years. We hear about market cycles peaking, and not just the stock market, but the bond market (first to react to interest rate changes), credit markets, and real estate markets (both commercial and housing). But how long does it take any one of them to “peak”? It’s not overnight, and they’re not simultaneous. Many investors in these markets have gone to a “risk-off” posture. But where exactly is the risk-off position. Each market has its own risk elements.
But why are rising interest rates important … the economy is surging right along, all indicators are trending up and lenders are still aggressively seeking loans for new projects, capex leveraged spending, and business acquisitions. Commercial real estate (CRE) fundamentals have improved, and are maintaining the improvement levels, although CAP rates have started to plateau in some asset classes and geographic areas. From a long term perspective, however, we’re still at historically low rates, even with Prime at 4.75%.
The U.S. and the world is saturated in debt! The cost of servicing this debt across the board can lead to a global economic slowdown we haven’t seen in generations. Comparison of financial and monetary indicators show a higher risk profile now than in 2007. A rise in yields has implications for debt servicing costs for corporations and governments that have loaded up on leverage, in response to the historically low rates over the recent 8 years (2008-2016).
This might sound like we’re trying to talk you out of a loan for your next acquisition, development or expansion project. Not at all. We’re as aggressive, opportunistic and optimistic as most, maybe more so. But we’re not blind to the risks. We would propose to find the type of loan and structure with terms and conditions that will withstand the risks we see, and you agree with, over the planning horizon.
Care to talk? Give us a call.
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Counsel Mortgage Group®, LLC
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Michael Green is a Commercial Loan Originator for the Counsel Mortgage Group®, LLC.
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