The “trend is your friend” is a common cliché used in the financial business to indicate what side of a trade or investment decision you should be on. This is certainly an appropriate catch phrase to be using to describe where you should be in the current interest rate environment. The trend is up and before to long it is going to be apparent in any number of interest rate sensitive areas of your life.
To put a rising interest rate environment in perspective we need to go back to the height of the end of the century booming markets. These markets gains were primarily as a result of huge investment and speculation in the Internet and telecommunications arenas and the feared Y2K bug. The stock market was riding high and the Federal Reserve fearing a return of inflation began to tighten short-term interest rates to the point where it inverted against long rates. The inverted yield curve meant that short-term rates were higher than long-term rates.
In March of 2000 at the height of the Dow which was 11, 600 and the top of the Nasdaq at 5100. On April 3rd the 90-day Treasury bill was yielding 5.87% and the thirty-year Treasury bond yield was 5.84%. The yield curve can be examined during this period at this site http://www.tmpages.com/tmp55.htm#TMDB_AA U.S. Treasury daily yield curve history.
As a result of a combination of unsustainable values, rising interest rates, and corporate fraud, the markets began to severely falter and the Fed attempted to turn things around by trimming rates. By April 1 of 2001 short rates were down to 3.75%. Shortly thereafter the events of September 11, 2001 dramatically altered the economic environment. The country was dealt a severe economic blow and the Fed responded by pumping liquidity into the system and cutting rates to levels we hadn’t seen since 1958. Short-term rates subsequently bottomed out in December 2003 at .75%
Since that time we have enjoyed the benefits of a low interest rate environment. This has manifested itself in two most obvious areas. Home mortgages have been at levels not seen in many years and other big-ticket consumer financing such as automobiles and boats have been low as well. Lower short-term rates have also resulted in some very reasonable credit card rates.
The result has been a dramatic rise in home construction and correspondingly in-home ownership. More people own homes now than at any time in American history. With more people having access to cheap capital the housing market has seen a tremendous increase in values. In addition people who had a great deal of built up equity in existing homes began to access that capital through various home equity products. Refinancing of existing mortgages also producing extra money in the home budget, which has resulted in a consumer led expansion of the economy since 9/11.
Added to that has been the enormous increase in credit card debt. With low interest rates have come the ubiquitous junk mail credit card offers. No interest for 6 months, lower rates in general, low or no rate transfers of existing balances have resulted in card juggling at a rate never before seen in history. To make matters worse is the checks that an existing account holder gets in the mail every other day with encouragement to spend spend spend!
Now here comes the trend argument. The Fed raised interest rates for the fifth time this year on December 14th and more increases are likely. Just as the financial markets of 2000 were not sustainable neither are the housing markets of 2004. Residential real estate in the region is so high that any increase in mortgage rates will slow the resale and likely sharply lower the price per unit.
More importantly than just the slowing of sales is the adjustable rate mortgage that has taken on popularity during this housing boom. As rates rise and place more pressure on the home budget we are likely to see this take its toll in the form of home foreclosures. This is inevitable, as lowered prices will prevent a homeowner from selling the property to get out from under the debt burden.
Of course credit card debt will have an enormous role to play as well. These rates may be low now but in most card agreements those rates can jump literally within a matter of days.
Finally we have the added burden of the demographics of the baby boomers. This group has generally wreaked havoc on the country at every level of their lives. Now they are about to make perhaps the most dramatic impact of all. Certainly social security is one example but so to is the northeast housing market. As these people enter their golden years and want to cash in their homes and head to sunny areas of the country we are going to see an enormous shift in property values. Where they leave will drop in value and where the end up will increase in value.
So kids, the trend is your friend. Lock in your variable rates, start paying down your debt as soon as possible and start looking at Florida and Arizona real estate.
