The Federal Reserve kept interest rates unchanged for the seventh consecutive session on Wednesday, signaling that monetary policy easing may be more gradual than the commercial real estate industry is hoping for.
The central bank kept interest rates steady at 5.25% to 5.5% and said in its post-meeting statement that its primary goal remains to get inflation down to 2% before cutting rates. A new Fed economic outlook summary released at the same time on Wednesday projects one rate cut in 2024. This comes after three cuts were forecast in December 2023, leading many in the market to expect six or seven rate cuts. However, the Fed's 2025 forecast now calls for four rate cuts instead of three.
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“We remain very vigilant about inflation risks,” Fed Chairman Jerome Powell said at a news conference after the meeting. “Until we have greater confidence that inflation is sustainably trending toward 2 percent, we do not believe it would be appropriate to lower the target range for the federal funds rate.”
The Fed's decision came hours after the Bureau of Labor Statistics' (BLS) latest Consumer Price Index (CPI) showed prices rose 3.3% in May compared to the same period 12 months earlier, an improvement from April's 3.4% year-over-year increase. On a monthly basis, the index rose just 0.2%, the slowest growth in two years.
Powell said inflation has “moderated significantly” from about 7 percent to 2.7 percent but that number is “still too high.”
Prior to the Fed's streak of holding interest rates steady dating back to last September, the central bank had raised interest rates in 11 of its 12 meetings between March 2022 and July 2023, raising borrowing levels to a 22-year high.
Wednesday's Fed meeting and CPI report coincided with the final day of the Commercial Real Estate Finance Council's (CREFC) June conference in Manhattan, where the fallout from rising interest rates was a major focus. CREFC Executive Director Lisa Pendergast said the May CPI release, coupled with the latest BLS gross domestic product (GDP) increase of just 1.4%, has CRE finance professionals expecting interest rate cuts in the near future if upcoming data confirms that inflation is trending in the right direction.
“The reality is they need rates to come down because a lot of the loans maturing are in the 3.5 to 4 percent range and now they're in the 7 to 8 percent range, so a lot of the larger loans maturing this year are going to be extended for a period at today's rates,” Pendergast said. “I think the Fed wants some data to rely on when it makes decisions about easing.”
Pendergast noted that CRE loans have weathered the crisis much better than feared, even though many borrowers face the unfavorable backdrop of a prolonged period of high interest rates, particularly in the commercial mortgage-backed securities (CMBS) market. Pendergast noted that single-asset, single-borrower CMBS delinquency rates of 5.1% are significantly lower than during the 2008 global financial crisis, highlighting the more “lenient” underwriting standards in place today compared to 20 years ago.
Sam Chandan, director of the Chen Institute for International Real Estate Finance at New York University, said the Fed could begin easing monetary policy in the second half of 2024 if core inflation continues to trend downward, but stressed that longer-term interest rates are far more important to the CRE market.
“The targeted cut in the federal funds rate should not be confused with a decline in longer-term interest rates, which are more important to the real estate sector,” Chandan said. “All lenders and borrowers should fortify their portfolios for a scenario in which the unnatural yield curve for commercial real estate financing turns from inverted to flattened, and refinancing challenges continue.”
David Kelsey, co-founder of CRE private equity owner-manager Hamilton Point Investments, said he expects interest rates to remain roughly flat over the next 12 months as high inflation projections haven't changed much. Kelsey bought his first apartment in 1988 with a 12.5% mortgage and refinanced it at 11%. That helps him have perspective when deciding how to approach a deal, Kelsey said.
“If you look at interest rates through the '90s, real estate yields were between 8% and 7.5% depending on the type of property, yet borrowing rates were around 6%. Prices have come down so we're not seeing yields that have a huge spread over current interest rates, but properties purchased in the last 12 months are still at a significant discount from peak asking prices or peak prices in that particular market compared to 24 months ago when interest rates were at an all-time low,” Kelsey said.
Andrew Coen can be reached at acoen@commercialobserver.com.