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A panel of real estate investors convened by commercial real estate association NAIOP feels the sector will need to brace for high – and potentially higher – interest rates through 2023 as inflation persists.
The thinking is in line with signals the Bank of Canada sent when it raised its rate Jan. 25 to 4.5 per cent and left the door open to hiking the policy rate as needed if inflation data warranted.
“The bank isn’t going to lower rates as quickly as we think. They’re really watching inflation, and it’s going to take time for this to play out,” Alex Messina, vice-president, acquisitions with Nicola Wealth Real Estate in Vancouver said during the Feb. 9 breakfast meeting of the Vancouver chapter of NAIOP.
While inflation rate peaked at 8.1 per cent last June and since trended down to 6.1 per cent in December, it remains well above the target rate of two per cent. It’s also stubbornly high in the U.S., averaging eight per cent last year but trended down to 6.4 per cent in January.
This concerned Vera Liu, director, investments with KingSett Capital Co. of Toronto, who expects at least one more minor hike in Canada this year. The Bank of Canada’s next policy announcement is scheduled for Mar. 8, followed by the Federal Reserve Mar. 21.
“Yes, the interest rate increases have controlled some basket of goods and services but not a lot of others, and also we just don’t have the luxury of existing outside our neighbours to the south,” she said. “If the Fed decides to hike another 25, another 50 [basis points], I really can’t see us not following suit.”
Various members of the Federal Reserve in the U.S. favour further increases to rein in inflation. The current rate is in the range of 4.75 per cent but a survey last week of economists by the Reuters news agency indicates that many expect at least two more hikes in the U.S. that could see it reach 5.25 per cent. The survey indicated no anticipation of a reduction until at least next year. High inflation is the primary issue.
Statistics Canada will release January inflation data for Canada on Feb. 21.
In the meantime, there’s plenty of capital waiting to be deploy, and NAIOP panellists are willing to do so – if the numbers work out.
“When interest rates started rising quickly, you knew there was a car crash coming down the road but you didn’t know if was a fender-bender or a 10-car pile-up, so what’re you going to do? You’re going to pump the brakes, and I think that’s what all of us did,” Messina said.
While the market hasn’t yet turned into a massive pileup, he said. “Interest rates have really sucked the wind out of the market” as a slowdown in deals shows. According to Altus Group, investment in the Metro Vancouver market was down four per cent through the first nine months of the year driven by a 39 per cent decrease in the third quarter. The slowdown continued through the fourth quarter.
“What we’re waiting for is interest rates to start levelling off,” Messina said.
While the end is in sight, the new cost of doing business require a more strategic approach.
Despite inflation generally being positive for real estate owners, the cost of financing and sharp rise in operating costs has squeezed margins. This hurts institutional investors with targets to meet for their funds, such as KingSett.
“Revenue hasn’t increased enough to justify all that, and at the end of the day my fund targets are still the same,” Liu said. “We haven’t pumped the brakes, but we are trying to be a little more strategic.”
