Navigating the Latest Interest Rate Hike: Insights from Real Estate Investor Brad Smotherman

Welcome to today’s interview with Brad Smotherman, a highly accomplished real estate investor who has established himself as a prominent figure in the industry. With features on GoBankingRates, Inman, and Real Estate Investor Summit, as well as hosting the Investor Creator Podcast, Brad brings a wealth of knowledge and experience to the table.

In the current economic landscape, where interest rates have been on the rise, billionaire investors and even the World Bank are raising concerns. Mortgage rates have seen a significant surge, skyrocketing from 3% at the beginning of 2022 to a staggering 7% today.

Amidst this backdrop, experts are preparing for what could be a challenging period in the real estate market. As lending institutions become more cautious and the rate hike persists, individuals may face difficulties making timely payments and obtaining financing. Furthermore, the growing influence of AI technology and the preference for remote work among employees has sparked concerns about the potential impact on commercial real estate.

However, despite the unsettling trends, the Federal Reserve remains committed to keeping interest rates elevated, driven by a 5.5% year-over-year increase in inflation observed in April. This situation has placed additional pressure on the American economy.

Enter Brad Smotherman, a seasoned real estate investor who has successfully navigated numerous housing market fluctuations throughout his career. With the ability to adapt to changing economic conditions, Brad has consistently guided others toward success. Now, we have the opportunity to delve into his insights and strategies for effectively navigating the latest interest rate hike.

Join us as we explore Brad’s expert perspectives, drawing upon his extensive experience in the industry and his unique ability to thrive in fluctuating economic landscapes.

As an experienced real estate investor, how do you foresee rising interest rates affecting the investment landscape for millions of businesses and consumers around the country?

 “The mounting interest rates will undeniably exert more pressure on the commercial property sector than on the residential one. Currently, the residential market is grappling with an acute undersupply, and while rising interest rates are exerting a downward force on residential real estate prices, the effect is not nearly as severe as it is in the commercial sphere.

The distinct structures of commercial and residential loans play a significant role in this discrepancy. Unlike the long-term, fully amortized loans common in the residential real estate sector—think 15, 20, and 30-year mortgages—commercial loans for properties such as apartment buildings or strip malls typically have shorter terms and balloon within 10 years.

This leaves commercial investors in a predicament, as many entered the market anticipating they could refinance at rates around 4 or 5%, which are now hovering closer to 8%. This drastic shift can lead to negative cash flows if investors are unprepared for the higher interest burden, or it could depress property values as potential buyers are deterred by the more expensive borrowing costs. While we are observing this issue manifest itself across the board, it’s indisputably a larger problem for those in the commercial real estate sector.”

  With mortgage rates soaring from 3% to 7% in just a year, what advice do you have for real estate investors who are concerned about the impact of these rising rates on their current investments and future opportunities?

  “In light of the current market volatility, with mortgage rates surging from 3% to 7% within a year, it’s crucial for real estate investors to adopt a more conservative strategy. Now is the time to aim for deeper equity positions, ensuring a solid safety net against potential market fluctuations. It’s more important than ever to thoroughly verify your projected cash flows. Ensuring that your investments can withstand possible downturns and continue to generate positive returns is key. You need to make sure that you have investments that can weather the financial horizon that could be a little bit darker than what we’ve seen in the past 10 years.”

Rising interest rates often lead to increased insurance premiums. How do you think these rising premiums could affect the housing market and real estate investors?

 “Although rising interest rates often lead to increased insurance premiums, it’s important to understand that these premiums are generally not a major factor for most investors or homeowners. For instance, even a 10% surge in insurance premiums typically results in a manageable increase in monthly payments.

However, the same cannot be said for interest rate increases. For example, a jump from 6.5% to 7% in interest rates can significantly influence the monthly payment, creating a more profound financial impact. Therefore, while insurance premiums certainly are a component of the overall investment, they are not nearly as critical as the potential rise in interest rates, which can significantly affect an investor’s or buyer’s monthly expenditure.”

 Given the current scenario with increasing rates and banks pulling back on lending, what strategies would you recommend to fellow investors to navigate this steady interest rate hike and mitigate potential risks to their businesses or investments?

“One such approach would be to focus on acquiring properties with deeper equity positions. This allows investors to mitigate potential risks and weather any financial storms that might emerge. Additionally, maintaining a substantial cash reserve can provide the financial cushion needed to navigate unforeseen circumstances. Similarly, ensuring sufficient cash flow is also key. It’s crucial to stress-test every business decision against worst-case scenarios to ensure the viability of each investment.”

 With the ongoing rise of artificial intelligence and the growing preference for remote work, there are concerns about the impact on commercial real estate. How do you see this trend affecting the industry, and what opportunities or challenges does it present for real estate investors?

  “I don’t think anybody has any concept of how AI will affect real estate in 30 or 40 years. However, within the short-term horizon of the next five to ten years, I don’t anticipate AI posing significant challenges to the industry. The more pressing concern for commercial real estate is the state of financial markets and lending practices. For instance, consider the recent case of a major hotel in downtown San Francisco, a prime spot with high room and parking rates, that had to be handed back to the bank by its owner. Instances like these exemplify the financial hurdles that could pose substantial challenges in the immediate future.

As for the impacts of AI on real estate in the long-term future? Only God Knows.”

6. Many investors heavily rely on banks for financing their real estate investments. What alternative strategies or methods would you suggest for investing in real estate without relying on traditional bank financing?

  “Our core operation thrives on alternatives to conventional bank financing. Just last month, we completed 28 property purchases without a dime of bank financing.

Two principal methods enable us to bypass banks. Firstly, we take over existing liens on a property ‘subject to,’ meaning we acquire the title with those liens attached, whether they’re mortgages, tax liens, or judgments. Instead of paying these off upfront, we continue servicing those payments.

Secondly, when we deal with a property that’s free and clear, we arrange for owner financing from our seller at a 0% interest rate. This is something we successfully execute several times a month.

Achieving this, however, requires two crucial skills: understanding the structure of the deal and having the ability to negotiate such transactions. It’s not necessarily an approach that an average person could easily navigate. That’s precisely why our educational services exist – to guide investors through these processes.

These methods essentially involve having our sellers finance the deal, allowing us to sidestep the need for traditional bank or private money lending. For those dealing with a motivated seller, this can be a feasible and relatively straightforward strategy to implement.”

Photo Credit