Real Estate and Interest Rates

For the last five years or so the Federal reserve has been working hard to keep interest rates low (by printing money and calling it “stimulus”). Last week, they announced they would taper their stimulus, which should cause a spike in interest rates. As a fellow real estate investor, I asked the obvious question: how will this influence the home prices?

Pundits love to get television and spout how increased interest rates will make it more expensive to borrow money, which in turn will deflate home prices. Any talking head can come up with a theory, but you can’t place any value on it until there is evidence to support it.

So…what does the data say?

Interest Rates and Home Prices

There are a number of interest rates to choose from, but for the sake of this post I’m going to use the fed funds rate (the interest rate at which banks lend money to one another). You can make an argument for using a different rate, but the results are similar. For home prices, I’m going to use the Case-Shiller Home Price Index (HPI).

In all of my examples I use annual data from January 1975 through January 2012.

Here is a scatter plot showing how interest rates and home prices correlate with one another.

Above I did a simple linear regression on the data.

If you’re not very statistically inclined, what you should care about is the R