In June, something called QE2 is set to end, and most real estate investors do not even know it. However, this government strategy, called “the Titanic” by some economists, plays a major role in our market and will, at a minimum, impact interest rates and lending when it is no longer in effect. In this article, we will explain and investigate some of the ramifications of this policy.
QE2 stands for quantitative easing. It is a method employed by the Federal Reserve to “monetize the national debt” by turning government bonds into circulating money[1]. QE2 is the second round of this technique by the Fed. The Fed conducts quantitative easing by buying long-term U.S. Treasury bonds, which pushes down interest rates and, in theory brings more money into banks. The idea behind QE2 is that if banks have more money to lend (from the government buying the bonds) then they will redeploy that money in the form of loans to consumers and businesses. As the supply of available money expands, so does the economy.
However, there are some problems with this theory: Mainly, it does not appear to be working. Banks are lending more money than they were, but not as much as the Fed anticipated. There simply are not enough “credit-worthy” borrowers out there to make the process work. Furthermore, businesses are hesitating to borrow money because there is still a high level of uncertainty about the economy. Businesses add jobs based on increased demand for products and services, and while the economy does appear to be making some sluggish headway, most entities are not willing to hurl themselves back into debt until the “recovery” has a little more history behind it.
So what does the winding down of QE2 mean for real estate investors specifically? Well, it all has to do with how the end of the process impacts market perception. If investors and homebuyers perceive the Fed’s exit from the bond-buying business as a sign of recovery and market stability, then they might be in the mood to buy[2]. This could be a great help when it comes to clearing out the shadow inventory and making the slow return to normal available housing levels. Additionally, with interest rates slightly higher, while financing may not look quite as appealing to many buyers, it could indicate to individuals who are “waiting for bottom” that the bottom has been reached and it is time to buy before financing stops offering such attractive terms. With higher interest rates looming, investors who have been buying up precious metals may also be interested in other commodities again. However, the end of QE2 could have a negative impact on the stock market, which has the potential to impact market perception negatively.
Critics of QE2 allege that the program “left the real estate market to fend for itself”[3]. In particular, the program did not do much to help small, neighborhood banks, with which real estate investors often work closely in order to find and do deals. Other analysts believe that the artificially low interest rates brought about by QE2 may have actually extended, along with other government programs, the housing market’s troubles. Perhaps most at risk are real estate investment trusts (REITs), which earn their money on the spread between low-interest, short-term borrowing and purchasing high-interest long term securities[4]. As interest rates rise in the wake of the end of QE2, REIT bottom lines are likely to shrink. Furthermore, most economists believe that the Fed will start raising interest rates in June at the earliest, and definitely early in 2012. However, the Fed will also continue buying Treasury debt to “help keep rates low on mortgages and other consumer loans,” so that particular issue could be considered something of a “toss up” and investors will just have to wait and see.
In the end, the truth is that no one knows exactly what the end of QE2 will mean for real estate. We live in an era of unprecedented government intervention in U.S. markets, and, as a result, an era of uncertainty. There is definitely going to be a major shift in June – and we believe that in general, any government exit from the market is a good sign – but it will be up to investors to carefully monitor and analyze the signs and impact on their personal and preferred markets in order to identify and take advantage of opportunity.
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[1] http://www.dallasnews.com/business/columnists/cheryl-hall/20101109-What-is-Fed-s-QE2-6107.ece
[2] http://money.usnews.com/money/personal-finance/mutual-funds/articles/2011/03/15/what-happens-after-qe2-ends
[3] http://www.etfguide.com/research/572/8/A-Close-Look-Under-the-Hood-Was-QE2-a-Giant-Waste-of-Money?/
[4] http://www.marketwatch.com/story/invesco-mortgage-and-anworth-brace-for-qe2-end-dividends-in-danger-2011-06-01?reflink=MW_news_stmp
