WisdomTree Minds on the Markets
Minds on the Markets
Minds on the Markets
Archive: September 5, 2023
The 5% Opportunity Cost
It’s becoming hard to believe, but COVID-19 first rolled into town nearly four years ago. A few people caught it in 2019, though the virus really hit collective consciousness outside of China in February 2020. The fright in the stock market was acute: the S&P 500 swooned from 3,386 on February 19 of that year to 2,237 just six weeks later.
The preceding bull market, which had stretched 11 years from March 2009, was so bold that the market’s dividend yield was just 2.26% even after that clobbering. Nobody was setting off fireworks over that yield, but what were you going to do? The Fed had slashed the Fed Funds Rate to a 0.00%–0.25% range. In a world of zero interest rates, many investors bit their lip and bought stocks. That effort paid off, too; the S&P 500 has doubled to around 4,500 since the COVID-19 lows. The lack of opportunity cost with respect to bond yields made it possible.
Fannie Mae’s 2023 Mid-Year Multifamily Market Outlook flew under many radars. “With multifamily cap rates having increased for several quarters, and property prices facing downward pressures, we believe cap rates are likely to further increase during the second half of the year, from the current rate of about 5.3% to between 5.5% and 6.0% over the next 12 to 18 months.”
If you wish to landlord a building right now, you have to be content to clip 5%–6% “coupons” and also maybe watch the price of that building decline. A peculiar venture, that one, because the t-bill that expires 90 days from now, right after Thanksgiving, pays an annualized 5.45%. T-bills don’t have overflowing toilets and bursting pipes. When bills yielded zero, landlords had to deal with the leaky roof, which came when it wanted to come. For their trouble, the investment paid five percentage points more than the zero on offer in cash markets. Today, different story. Plunge that toilet and go home with 5 1/2%, or click a button on your phone and still get 5 1/2%.
The landlords are not alone in this. The S&P 500’s furious rally only started to sputter about a month ago, so the 2.26% dividend yield on offer at the March 2020 low has dwindled to 1.49%. Just as the apartment rental equation has morphed from “5 percent vs. 0 percent” to “5 percent versus 5 percent,” the stock market’s 2.26% dividend yields in a 0% cash world was a very different offering than today’s 1.49% dividend yield amid 5% cash yields.
Speaking of the 5% world, the too-big-to-fails are yawning at the “Bank Walk,” our term to describe money walking, not running, out the door in search of better yields. For the big players, the Bank Walk has thus far been a non-issue. Wells is paying 0.15% on savings accounts, while both Chase and BofA are offering 0.01%. The game theory on this is a tough one; Goldman’s Marcus unit has been struggling for years to steal retail clients, so it is ponying up 5.10% on 12-month CDs. BMO is quoting 5.40% on their “Alto High Yield” CD of the same maturity.
What the heck are some of the too-big-to-fails thinking? One explanation is they don’t need or want small retail deposit money. The other explanation is that there is little incentive to pay the full five-handle on deposits when clearly a critical mass of depositors aren’t paying attention. In other words, better to pay 0.01%, mint profits and lose a few clients than keep all the clients but vaporize your profit margin.
Could you have imagined this setup? A stark, bold monetary tightening regime that may just witness big banks posting bumper profits? Lend at zero, turn around and clip five. Beautiful. Just one proviso: the banks need to hope the landlords never sit down with a pen and paper and crunch the numbers. If they do, a ton of apartments are going to be put up for sale.
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