With the presidential race results now known and Congress results mostly known, the overall policy mandates are becoming clearer. We will focus this article on five economic topics and how they could generally affect real estate.
- Tax Policy
- Energy Policy
- Tariff Policy
- Immigration Policy
- Inflation & Interest Rates
TL;DR: The Tax Cuts and Jobs Act expires in 2025. The tax code could be different in the next year or so with additional tax cuts; we are predicting a renewal and expansion of Opportunity Zone legislation. Extension and/or modification of the TCJA will be the first big piece of legislation for the new administration and only needs a simple majority in Congress to pass (budget reconciliation) although the oddsmakers believe Republicans will sweep Congress majorities. Tight border policy means less people enter the country and the labor supply normalizes; potentially good for developers, multifamily owners, and companies that employ large numbers of low-wage workers as we think mass deportation is unrealistic. Republican platform includes pumping more oil. This is deflationary so could have an impact on interest rates in the short term. If the Democrats can hold on to the House, less bold action takes place and there is a slower pace of change as the parties haggle over competing party priorities.
For this article, we assume the Republicans have full control of Congress and Presidency. The Republican platform will likely revolve around an expansion of fossil fuel supply, import tariffs, border security, tax cuts (at a minimum an extension of the TCJA), and an emphasis on inflation/interest rate mitigation.
What do these mean for real estate? Let’s break them down individually:
Tax Policy: A continuation of the Tax Cuts and Jobs Act of 2017 (TCJA) in its current form is highly likely with a strong likelihood of increased tax breaks. Our view is that tax cuts for corporations are on the table as well as certain tax breaks for working class Americans that were promised during the campaign. No tax on tips and no tax on overtime pay were two that were floated during the campaign. Our overall view is that tax cuts generally mean increased consumption which means increased discretionary spending like travel. Our view is that tax cuts generally help all real estate asset types with a heavier emphasis on hospitality, retail, and residential as the consumers have more cash to spend. Many prognosticators have failed to talk about Opportunity Zone legislation in the 2017 TCJA. Opportunity Zones created major tail winds for new real estate development across the country. Our hot take is that there will be a renewal and expansion of the Opportunity Zone legislation to include new opportunity zones, which could be a big boon for real estate developers and real estate investors starting in 2025 or 2026. With the run-up in the stock market, there are a lot of capital gains that could be redeployed into new real estate development. The headwind for real estate development has been high interest rates. The other potential headwind for real estate from tax policy is the prospect of higher inflation because of increased demand for goods and services. Our big concern with tax cuts is a widening fiscal deficit. Many bond traders are pricing this into existing and new issue Treasury bonds a.k.a. the “term premium.” Higher interest rates have a negative effect on the value of real estate so this should be watched closely.
Energy Policy: Our expectation is that the US will become the most dominant energy producer in the world which will have a deflationary impact on oil prices. Our belief is that additional US production will also place less importance on OPEC since massive new supply could bust or weaken the cartel behavior of OPEC. Fossil fuels are an integral part of commerce in the United States and the price of oil has a direct impact on the price of nearly all goods. Petroleum based inputs are used in many products. Oil and gas are used to transport raw and finished goods around the world so a decrease in cost along the supply chain probably trickles down to prices. Additional fuel supply could have the effect of lowering the price of goods and lessening the annual expense consumers feel at the pump. Lower oil prices typically lead to higher consumer sentiment which could result in higher goods consumption. This scenario generally supports retail real estate, hospitality, and multifamily. Consumers feel better about the economy and are willing to spend more on new consumption, travel, or trade up to nicer apartments. There has been some talk about using oil and gas royalties to pay down national debt or at least bring the fiscal budget back toward cash flow neutral, which we would welcome and encourage, if ever asked by the new administration. As it relates to real estate, lower energy prices generally help encourage consumption which has similar benefits to reduced taxes. We would expect winners to include hospitality, retail, and residential real estate. Lower energy prices also probably help with construction costs and encourage new development as projects become more attractive for developers. Lower energy prices probably translate to lower profits for the upstream oil producers. In essence, as the price of oil goes down, the groups that pull it out of the ground make less. This could have a negative effect on real estate that is heavily reliant on the oil production economy, like Houston, Texas. We have seen this in the past when oil prices get too low. Other losers include the renewable energy economy, in general. It seems that the emphasis will be on fossil fuel supply increases with less new legislation to renewables like wind. Solar is a wild card, but its success has relied heavily on government subsidy.
Tariffs: Tariffs are a tax on imports that tend to make imported goods less desirable due to their comparatively increased cost. Our view is that tariffs are mostly used as a negotiating tactic with trading partners to modify the terms of existing trade relationships. For example, the USMCA trade deal was negotiated via the threat of additional tariffs to facilitate a new arrangement. If tariffs are broadly enacted, we would expect a slowdown of imports and the potential for retaliatory tariffs which could have a negative effect on certain markets or businesses that are reliant on import/export business. In the end, we believe that tariffs will be used tactically to support certain industries involved in manufacturing. We would also expect tariffs to be used to encourage key domestic farming and agriculture industries. Tariffs could ultimately be used to turn consumption away from foreign importers and toward domestic producers which could have the effect of supporting new industries and creating new opportunities for job growth. We tariffs end up improving the fiscal deficit, we expect interest rates to moderate which could help real estate values across the board.
Immigration: The large increase in immigration to the US has increased the number of low-wage workers in the country which has the effect of keeping wage inflation for low skilled workers tightly managed. We expect Trump 2.0 to look a lot like Trump 1.0 immigration levels moving forward. We are skeptical that a large-scale deportation of existing illegal immigrants is ever pursued during Trump 2.0. Our view is that any deportation under Trump 2.0 will be limited in scope to illegal immigrants with a criminal background. It seems likely that Trump 2.0 border policy will include the completion of the wall. How does this all affect real estate? Wages for low skilled workers may increase so industries with a high percentage of low skilled labor may see deteriorating profit margins. This could be inflationary on many goods and services due to rising labor costs or result in labor offshoring. Generally, we think the lagged effects of the sheer number of new people in the country to be a positive for work-force housing and housing in general. Housing is still in short supply in many markets and new supply is still somewhat limited due to high construction costs and high interest rates. We would expect to see increases in rents, and home prices.
Inflation & Interest Rates: Inflation is a purely monetary phenomenon. In other words, if the money supply is increased, keeping all else equal, there will be inflation. More dollars chasing the same amount of goods = inflation. If the new administration can manage to dis-inflate and keep employment stable, we can realize lower interest rates. This would be a goldilocks scenario for real estate investing. Interest rates decreasing, inflation moderating, and consumption stable. It’s unclear if this can be pulled off but this would set up another bull run in real estate assets. It’s difficult to predict where interest rates and inflation will go. We take the contrarian viewpoint to the conventional wisdom contained in the “Trump trade.” Our view is that energy price deflation combined with reduced government spending probably weakens the inflation outlook and jobs market but also results in a dovish Fed. If the fiscal deficit comes inside of expectations, we expect the bond market to rally especially combined with a dovish Fed propping up the jobs market which would be welcomed in Trump 2.0.