Can Raising Interest Rates Effect Commercial Real Estate?

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The long-awaited day of reckoning is here: The era of historically low interest rates is over.

At least that’s how investors have reacted to the statement from Federal Reserve Board Chairman Ben Bernanke on June 19 that “the downside risks to the outlook for the economy and the labor market have diminished.” Even though Bernanke also said there would be no immediate change in the central bank’s easy money policy, investors figured the moment is near for the Fed to start unwinding its efforts to support the economy.

Investors had already begun bidding up rates in recent weeks, anticipating the Fed might signal a policy change, and continued doing so after Bernanke’s announcement. The benchmark 10-year Treasury yield hit a low of 1.66% on May 2 and rose to 2.44% on June 21. The U.S. and global stock markets nosedived following Bernanke’s words, a fearful reaction amplified by worrisome signs that China’s economy is slowing. The Dow plunged 559 points in two days from its close on June 18, a drop of 3.6%.

So what do rising rates mean for you and your money?

In short, the higher interest-rate environment will benefit savers, be a mixed bag for investors and make loans and credit cards more expensive for borrowers.

Here’s my take on how you should be handling your finances as a result of the new economic environment:

The Outlook for Interest Rates

First, however, an interest-rate forecast. How fast and how far rates will actually go up is an open question, but the consensus is that U.S. Treasury yields and rates on credit cards, mortgages, auto loans and other consumer loans will rise slowly.

Moody’s Analytics predicts 10-year Treasury yields will go from today’s 2.44% to 3.5% in 2014 and to 4.5% by the end of 2015. James Paulson, chief investment strategist at Wells Capital Management, offers a similar forecast, looking for the 10-year bond yields to reach 4% in 2014.

The reason behind the expectation of a muted rate increase is that U.S. economic fundamentals are improving at a grinding pace. Unemployment is a steep 7.6% and the overall economy is growing by just 2% or so. Most important, inflation was merely 1.4% over the past 12 months.

“Interest rates won’t go up fast unless inflation goes up fast and inflation won’t go up fast with the economy as weak as it is,” says Meir Statman, professor of finance at Santa Clara University and author of What Investors Really Want.

That said, the unruly global credit markets represent the wild card in any interest-rate outlook. So don’t view any rate prediction as a sure thing.