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I hope everyone is having a happy holiday season. Before getting into my predictions for next year, there are three crucial factors to discuss that will shape the real estate market in 2022 and beyond. Interest rates, inflation, and where the pandemic goes from here.
All three variables are intertwined as they influence each other, but it is important to discuss each one individually to understand how each unique variable will influence real estate in 2022 and beyond.
Inflation continues at the highest rate in over 30 years. There should be some break in the continued price acceleration as supply chains “catch up” with demand. Furthermore, we are seeing in the latest retail numbers that prices are starting to dampen demand a little which will help. Unfortunately, there are a few categories that will remain elevated for a while: housing and wages that will factor into the price of goods.
Housing prices continue to climb which will result in higher rents. We are getting into a chicken vs egg cycle where higher rents are also driving housing prices higher. As rents rise it becomes more desirable to own a house as the difference between the payments is compressed. I see this cycle continuing to play out in 2022 which will lead to even further increases in rents along with higher house prices which ultimately will continue to drive inflation higher even after the supply chain issues are rectified. Remember housing makes up over 30% of the CPI calculation.
Wages also look to continue higher as the work force remains constrained either from retirements or others not reentering the work force for several reasons. For example, as inflation and wages increase, so does childcare costs which makes it more difficult for many to justify working if they are spending close to what they are making on childcare. I do not see this issue getting resolved in 2022 which will lead to continued upward pressure on wages, but likely not as much as in 2021 as demand wanes a little.
The Federal reserve finally came around that inflation is not transitory and as a result they accelerated the wind down of their bond purchases which will put them in a position to begin hiking rates early into 2022. The median consensus is 3 quarter point hikes with 4 a possibility. This would take interest rates to 4.5%-5% depending on how the market reacts to the wind down of the federal reserve’s bond purchases. This will put rates up around 50% off the average for 2021 of 3%. This is quite the jump in costs for housing as salaries for the majority are not increasing 50% a year and this is on top of 20-40% increases in house prices.
Where the pandemic goes from here
The leading consensus is that the pandemic becomes more endemic in 2022 which would lead to even more normalization of the economy. 2022 will finally be the year of the back to office trend which will reshape real estate into more traditional patterns like we saw before the pandemic.
Will real estate values increase or fall in 2022?
2022 is a challenging year to predict as interest rates will slow down the market, the stock market as I’m writing this is processing the changes and heading lower, and consumer confidence is also lower. At the same time inflation looks set to continue. There are more negative than positive risks for real estate heading into 2022.
In the first half of the year and possibly the full year higher rent prices and desire to own quality hard assets will outweigh the negatives which will lead to appreciation in the 5-10% range for residential properties.
On the commercial side, rising real interest rates should begin to put pressure on cap rates. Remember that the higher the cap rate the lower the value (they work in inverse to each other). On A properties I don’t see huge risks, but on B/C office there will continue to be softness. Retail should also be soft/declining as the push to the internet continues. Industrial and multifamily should be the bright spots in the economy.
The wild card is what happens late 2022 or early 2023 as rising interest rates begin to dampen demand and the federal reserve must put the brakes on the economy even sooner if inflation continues.
Although the roses will be out and the birds will be singing going into 2022, there is trouble ahead. Unfortunately, I don’t think we are done with inflation based on projections for rents/housing and the tight labor market. I’m skeptical based on history that the federal reserve can engineer a soft landing as the economy has gotten considerably hotter than they anticipated with inflation far outpacing any projections. The federal reserve will likely need to act more aggressive than the market is anticipating which will lead to a market correction; this could occur late 2022 and more likely sometime early/mid 2023. For now, enjoy the calm nice real estate market, but keep an eye on the wind that could signal the start of a storm.