Real estate market outlook hinges on inflation in 2023
Interest rate rises are doing their job by slowing things down. The whole point of cutting rates during the pandemic was to stimulate the economy and now as things started to heat up too much, the point of raising rates is to slow things down. It’s a delicate balancing act but one that is working.
Australia is perhaps leading the world. The Reserve Bank of Australia (RBA) was the first among many to raise by less than anticipated in October and then followed through with the same stance in November. The RBA was seeing what some others couldn’t. The Bank of Canada (BoC), European Central Bank (ECB) and Bank of England (BoE) have all followed the RBA since with caution.
The only central bank set on its aggressive tightening course has been the US Federal Reserve, who continued to push through a 75bpts hike recently. But something potentially changed last week — inflation came in below expectations in the United States.
That got us thinking…
Has US inflation peaked and with it interest rates?
We think that last week’s US inflation data is not a one-off but likely to be the first signs of a trend that builds into 2023. The reason we say this is that the goods component of inflation is starting to come back. Goods started the inflation spiral which flowed into services. They’re now reversing…slowly.
The higher US dollar and falling energy prices have helped goods plateau and in some cases we’ve even witnessing disinflation. For example, used cars (once the worst asset class you could own) are now trending almost 3% lower month on month.
Over the next few months, as recent interest rate rises kick in, this trend will continue and we will be cycling into much higher comparison periods when we start the new year. Clothing, furniture and IT costs have all started to come down too.
So what happens next?
The US Fed will want to see more of a trend emerge, but deep down inside, we think board members will be pleased. Not just that inflation is trending lower, but that the Fed is back in control. This tightening cycle was never just about the numbers. It was about restoring credibility after the blow up last year.
The RBA, BoE, ECB and BoC are less worried about credibility and more worried about domestic growth. If the Fed pivots and starts cutting rates late next year, it will make it very clear that they are doing it on their own terms and not because they have misread the situation like last time.
For this reason, we think the markets are now looking 3-6 months out and see the writing on the wall. Inflation has probably peaked, rates will remain high for a little while before a completely different game in late 2023. We’ll get more confirmation in coming months.
The US dollar has started its gradual slide back to reality. See our longer note here. Real estate prices have already fallen in most major metro cities by 10-15%, so there is an element of bad news already priced in. See our note last week.
The big unknown is what happens in crypto. Real estate and crypto can seem worlds apart and they are. One thing to watch though is any potential contagion impact from the current crypto problems in the market. If crypto blows up, many other parts of the market could be impacted. In the remote chance this happens, it could bring about interest rate changes faster than expected.
We explored this in our my note last week:
