Buy High, Sell Low

Here's a simple fact the most investors probably know but it bears repeating once in a while. To a cashflow investor, high interest rates offer a buying advantage and lower interest rates offer a selling advantage.

This bit of old wisdom, of course, based on the assumption that people tend to pay the same amount for housing, regardless of external factors. If I can afford $2,000 a month for housing, then I can afford $2,000 a month whether that means $1,000 in interest or $500 in interest. Bear in mind this quick example:

John can afford to pay $2,000 a month on his mortgage (any more would be squeezing it a bit tight). If interest rates are at 5% on a 30-year fixed, then he can afford a home worth about $400,000 (assuming a 10% downpayment). If interest rates climb to 8%, he can barely afford a $300,000 home (assuming again a 10% downpayment).

Why does this matter? Because John is your competition. He's the guy out there placing bids on homes and driving the market. What he can do affect what you can do. When interest rates drop, he can afford higher prices and drive the market up.

I haven't seen any empirical evidence that proves that interest rates doesn't impact the percentage of salary the people spend on housing, but the theory in general makes sense. And there isn't any argument that when interest rates climb, it stresses the real estate market because the average person's ability to afford houses falls.

So why are high interest rates so good for you? Because as a buy-and-hold investor, you're not always concerned about the next year or two, but in the next 15. If you buy when interest rates are high you'll probably pay a lower price than you would otherwise (because it will be harder for people to bid the price up). Then, when prices fall again, you can pay to re-finance and the house then becomes tremendously more profitable.

In comparison, low interest rates are the best time to buy, because then people can afford to drive the price of your home up. With lower interest rates they can afford bigger mortgages.

Still, this isn't a very active strategy, since interest rates move at a relatively slow pace and no one can truly predict where they are headed. But it's something to ponder.