Praying for Time By: Gabriel PotterMBA, AIFA® 2016.12.27

Our most recent article for December (Inflation in the Crosshairs) i stated the likelihood of significant increases to inflation in the near term.  Just today, S&P Core Logic Case-Shiller released additional data to support this claim and gives us another bit of food for thought for setting future expectations.  First, let’s look at the data.  Through October 2016, the Case-Shiller home price index is up 5.1% from October 2015.  The increase in home prices is not merely a “reversion to the mean” because home prices have already recovered from the 2007 home price collapse.  Just last month, the home price gauge exceeded the 2006 peak price last September.  So, we’re hitting new highs and, moreover, the data suggests slight increase in the rate of price increases.

That’s the data we’ve got so far, but it’s only through October.  Let’s consider that the Federal Reserve has increased rates since then.  What might reasonably happen?  Well, rates go up, which increases the cost of borrowing, including mortgage lending (and any other economic activity, in fact).  So you’d expect fewer people to borrow money for home purchasing, lowering demand, and containing prices.  In short, this is why the Fed moves rates – to control the rate of economic activity and keep prices stable.  That’s the long term goal.

There is an ironic counter-effect that may happen in the short term.  Recall that there’s already a lot of un-invested money in the system – high personal savings, corporate profits, cash on the books, available credit, and so on.  Imagine you have planned economic activity - e.g. individual households have earmarked money for a home purchase - that hasn’t been acted upon yet.  Since the Fed just increased rates and the presumption is that they’ll continue to increase rates in the future, the short term effect of increasing rates might actually boost economic activity by spurring hesitant investors (in homes, corporate expansion, or any other purchase set up with borrowed money) to act quickly rates are still historically low. 

In other words, an increase of rates with the expectation of continued increases may hasten activity, increasing demand, and accelerating price inflation.  If inflation accelerates, that spurs the Fed to increase rates more quickly.  Their next meeting is January 26-27th, which doesn’t give purchasers a lot of time to issue bonds or secure financing to lock up the advantageous borrowing rates.  So if you’ve got a big purchase lined up, personal or otherwise, you might be praying for time.



Gabriel Potter

Gabriel is a Senior Investment Research Associate at Westminster Consulting, where he is responsible for designing strategic asset allocations and conducts proprietary market research.

An avid writer, Gabriel manages the firm’s blog and has been published in the Journal of Compensation and Benefits,...

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