One More Fed Meeting in 2007 What's ahead for the 2008 Real Estate market?

Hello, Friends!

I hope all is well with you and your family and that this holiday season brings you health, happiness, and success.

The Feds made their move on October 31^st by dropping the discount rate ¼ point. Watching the market since then, very interesting things have happened. On the day of the Fed decision, the Dow Jones Average gained 138 points as investors were relieved that Bernanke and company were still responding to their needs and being proactive in regard to stimulating this economy that has begun to stall. Ironically, that same day, the government released quarter three advanced gross domestic product (GDP) which stood at a very healthy 3.9%. This seemed to indicate the possibility that the economy was still growing at a moderate pace. Concern about inflation becoming the predominate Federal Reserve focus intensified as a growing economy can be inflationary.

On Friday, Federal Reserve Governor Randall Kroszner, in a prepared statement prepared for an Institute of International Finance conference in New York, "a sequence of data releases consistent with the rough patch for economic activity that I expect in coming months would not, by themselves, suggest to me that the current stance of monetary policy is inappropriate,"

He was saying that cutting the Fed Funds Rate is not only not likely, but would only be considered only as a last resort. It's clear that the Fed's are doing what they can do gain control so that investors can't count on a rate cut each time the equity markets perform poorly over an extended period of time. Recently, Ben Bernanke, the Federal Reserve chairman, made it clear that they believe the economy will slow in the forth quarter.

Since October 31st, the Dow Jones average has dropped from 13930 to 12980 where it finished today. During this time, Bernanke and company stated that "The Committee judges that the upside risks to inflation roughly balance the downside risks to growth."

What does this mean and at what point will the focus once again on inflation as the predominate danger to this economy? While it's certainly true that the economy and the American public have shown tremendous resiliency in the face of sky rocketing oil and the ever weakening US dollar, the worst is yet to come. On its rise toward the inevitable journey to $100 per barrel, gasoline prices remained at recent lows, averaging $2.75 per gallon through the summer and into Fall. Some analysts expect gas to be close to $4/gallon soon. That is a level that we have not had to experience in the past. At $4/gallon, it will cost $64 to fill a 16 gallon tank. In my opinion, you will see consumer spending fall as the cost of living rises. This leads to recession.

Looking at the GDP numbers, another important thing to remember is that exports have been on the rise as foreign currency is now worth a record amount of US dollars. Take away export numbers and the weakness of our economy becomes more transparent. Ironically, the weak dollar actually helps this economy stave off recession, at least for now.

In summary, the Fed is in a very tough position. On the one hand, the spike in oil prices could clearly be viewed as a sign of inflation. So that's a good argument for the Fed to keep its key federal funds rate unchanged when it has its next meeting on December 11, some economists say.

However, the spike in oil has the potential to lead to higher gas prices at the pump as well as steeper home heating costs this winter. With that in mind, $100 oil might be more of a tax on consumers and could weaken the economy.

"The economy is on the brink of a recession," said Mark Zandi, chief economist with Moody's Economy.com, an independent research firm. "Hand wringing about inflation is misplaced. The Fed should be focused on growth. Inflation is not an issue for 2008."

Yesterday, the Fed released their outlook for 2008. They are predicting that the economy will grow at between a 1.8 percent and 2.5 percent clip in 2008, down from an anticipated growth rate of 2.4 percent to 2.5 percent this year. There is clearly a very real concern that higher oil prices along with the still depressed Real Estate market will lead to a recession and consumers become very selective in how they spend their money.

Now here is the good news! Through all of the roller coaster of events since October 31^st, the mortgage backed securities (increased buying leads to lower yield which lead to lower Mortgage rates!) have been steady and not been subject to the wild swings of Wall Street. Why is this good? The 30 year fixed rate has been close to 6% during this entire time and that, my friends, puts them in position to fall below that level soon. Last December, we fell all of the way down to 5.75% and there's no reason not to believe that we will be there OR LOWER by year end.

December 11th, the Federal Open Market Committee will meet for the last time in 2007. (The first 2008 meeting will be January 30th) The commitee will do their best to hold rates steady, in part due to the failing dollar. Remember that mortgage rates follow the yields of mortgage backed bonds. As investors flow into those bonds, the yields will fall and mortgage rates will follow. The 10 year treasury yield closed at 4% on the day after Thanksgiving largely due to the flight to safety of bonds. (Each time negative news comes out of the financial sector, stocks react negatively with the money flowing to safety. This partially explains the more than 1100 point drop in the Dow since October 9th.)

In my view, 2008 will be a year of slow but gradual recovery in Real Estate. Long term mortgage rates should continue to tick down and more and more buyers will jump into the market as a result. Those of us that have worked hard and will continue to work hard will survive to experience good times again. 

Rick Bernstein