Just after the Federal Reserve announced a quarter percent rate cut, President Trump announced more tariffs. This sparked fear on Wall Street of an escalating trade war, which sent the S&P and Nasdaq Composite tumbling down, marking their worst week of the year.
Trump announced that starting September 1, $300 billion worth of Chinese goods, ranging from toys to iPhones, will be slapped with a 10% tariff. This is on top of the existing 25% tariff on $250 billion worth of imports. Investors fled to the safety of US Treasuries, dropping yields down to 1.8%
The July jobs report didn’t help. Only 164,000 new jobs were added, and the unemployment rate was unchanged at 3.7%
But, some say, the tariffs may not actually be put into effect. Peter Schiff suggested, on his podcast, that the tariffs weren’t as much a message for China as they were for the Federal Reserve.
President Trump was disappointed that the Federal Reserve did not lower interest rates more than a quarter percent. He announced the new tariffs in a tweet immediately after the Fed announced their meager rate cut. He may have known his message would rock the stock market – which could be his way of forcing the Fed to lower rates again in September in order to save the markets.
How Does This Affect US Real Estate?
It’s very important for real estate investors to understand the affect of government policy and Fed fund rates. When rates go up, the economy slows. When rates go down, the economy revs up. In fact, any kind of monetary stimulus is designed to boost economic output. Raising rates isn’t the only tool in the box.
The Tax Cuts and Jobs Act was another stimulus. When people pay less in taxes, they tend to spend more, and our economy is very reliant on consumer spending.
While the benefits of tax cuts were apparent immediately afterwards – in the form of job growth, new stock market highs, and GDP growth – this year the stimulus seem to have lost steam. In fact, according to the Tax Policy Center, the economy has returned to pre-TCJA levels. Revised figures show the average GDP for 2018 fell from 3% to 2.6%.
The tax cuts were supposed to encourage companies to purchase more plants and equipment, but the Bureau of Economic Analysis (BEA) reported that business investment actually turned negative last quarter for the first time since 2016. Why? Probably because of the tariffs and trade wars. US exports fell buy 5% during the second quarter of 2019.
President Trump’s campaign promise, to cut taxes in order to produce more long-term investment in the US leading to annual wage growth of $4,000 or more, does not appear to be happening.
Stimulus also can come in the form of government spending, which Trump also promised. He has fulfilled that promise.
Government spending was up 7.9% last quarter, which is helping to prop up the economy. Unfortunately, all that spending and stimulus is adding up – the deficit has soared to $1 trillion this year and is expected to get worse with the new spending bill that was just approved by the Senate. That, combined with the TJCA, is expected to add more than $4.1 trillion to the federal debt by 2029, according to the Committee for a Responsible Federal Budget.
What Does All This Mean?
It means that currently we are fighting deflation, not inflation. Inflation could certainly hit us down the road, but right now, our focus as investors should be how to navigate deflation.
Here are some tips:
- Don’t over-leverage. Keep your LTV’s low so that if prices do decline, you’ll be covered.
- Don’t count on rents going up. They might, but make sure the numbers work as they are today, or even in the event that they decline.
- Don’t overpay for property. So many people are buying property thinking prices will continue to rise. Don’t expect it. If you are in a high priced market like San Jose, you should be expecting that prices will decline. More affordable markets will likely continue to see price gains, especially in the southeast, where the bulk of the demographic changes are happening.
- Sell your high priced, under-performing properties and exchange them for low priced, high performing assets in growth markets.
You can find a list of growing US markets here