Globalization offers international real estate investors the opportunity to build wealth from investment properties anywhere on the globe. Despite the ongoing uncertainties caused by the coronavirus outbreak, the real estate industry continues to be one of the most attractive sectors for investors worldwide looking for financial stability. And if you’re looking to invest in a real estate market abroad, there are a number of factors that you should pay attention to. These include trends in supply and demand for residential properties in the target market, taxes for rentals, interest rates (if you’re planning to borrow in the foreign currency), and exchange rates. In this article, we’re going to focus on exchange rates and how they affect your real estate investment decisions.
Understanding Currency Exchange Rates
The simplest and most accurate way to define the term “exchange rate” would be to say that it’s the value that one currency has when transferred into another. For example, it’s the price of the US dollar against the Australian dollar or the Japanese Yen. Fluctuations in currency exchange rates are caused by numerous economic factors such as inflation, monetary policy, consumer confidence, the balance of payments, and GDP dynamics. Most commonly, this fact seems to matter for people planning a trip to a foreign destination. However, the indirect impact of foreign exchange rates and their fluctuations extend much more broadly.
Foreign exchange rates or anything remotely related to it may not affect your investment property buying decisions if you’re only hunting within the local real estate market. If you are thinking of extending your reach overseas, on the other hand, you would have to deal with currency exchange rates. Although there is a list of currency exchange rates that you can refer to day-in and day-out, its influence on the housing market is not readily evident. Here’s all you need to know about the relationship between the exchange rate in 2020 and the real estate industry.
#1. Foreign Real Estate Investors
The first thing you need to understand is that exchange rates mostly affect foreign real estate investors. This level of fluctuation can have a huge impact on the number of foreign investors buying into the market. The question is: Which currency is growing? If the foreign currency is growing, there’s usually an influx of foreign investors in the real estate market. This is because if the value of foreign currency starts growing comparatively to that of a target country, foreign investors have more purchasing power and, hence, can buy more property.
Imagine a scenario in which you are investor A, an American real estate investor and there’s investor B, a foreign investor. In this scenario, both of you have the same exact amount of resources (in your respective currencies). If the foreign currency grows in value while the US dollar drops, investor B suddenly has more resources available. As a result, their purchasing power grows and the availability of property investments in the US housing market starts looking a lot more appealing to them.
On the other hand, currency devaluation can also cause problems for foreign investors. The problem lies in the fact that if a rental property is located in an area where the currency has become devalued as a result of exchange rate fluctuations, the value of their rental income might also be significantly reduced when converted. This means that their return on investment might no longer look that great. Keep in mind that exchange rates don’t affect just the rents, but the utilities and cost of living as well. This is something that potential tenants care deeply about and something that may affect their decision-making process.
#2. Real Estate Values
There’s a number of factors that affect the value of your investment property. In general, the most crucial factors are the location, the neighborhood, the property’s condition, and the property’s age. However, if you’re planning to own an overseas real estate investment, you should include exchange rates in this list. Investors can trade properties whether in dollars or in foreign currency. If the real estate transaction is carried out in a foreign country, the strength of your home currency will determine the property’s value.
If you carry out the deal using foreign currency in a foreign country, the exchange rate will have little to no direct effect. However, if you use your own currency, the strength of your home currency will have an impact on the real estate transaction. In short, the strength of your home currency will be a factor that determines the value of the property. So, if you’re given the choice to use either currency, it is better to buy foreign real estate investment using foreign currency if your home currency is strong.
#3. Real Estate Prices
Another reason why you should closely monitor the value of your currency if you plan to invest in a real estate market abroad is that currency exchange rates affect real estate prices and rental income. If a foreign currency strengthens against the dollar, for example, you would have to use more dollars to buy rental property in a foreign country. This implies that property prices increase and return on investment yields decrease as property maintenance becomes more expensive. During such times, it’s more profitable to sell than to buy real estate assets. Thus, the best time to buy an investment property in a foreign country is when your home currency strengthens against the foreign country’s currency.
Foreign buyers have pushed up real estate prices in nations with weak currencies. A weak or undervalued currency attracts foreign tourists, which can be good for the economy. However, it also attracts foreign buyers looking to scoop up cheap rental properties, outbidding domestic buyers for them. However, a weakening currency poses risks to these foreign landlords because it reduces their rental income yield when it’s converted into the stronger currency.
#4. Inflation and Mortgage Interest Rates
A weak domestic currency could also push up the inflation rate and raise interest rates. High interest rates make homes less affordable which, in turn, leads to higher mortgage payments. As a result, this reduces the demand for loans and housing. Conversely, a strong currency depresses inflation and reduces interest rates. Exchange rates thus have an indirect impact on the interest rate you pay on your mortgage. Keep in mind that the value of a currency sometimes serves as an indicator of the country’s economic stability. In other words, the value of the currency and real estate may sometimes grow simultaneously.
With the spread of the coronavirus and economic uncertainties, current mortgage rates in the US housing market have hit historic lows. Despite this fact, the US dollar still enjoys favorable exchange rates in relation to currencies of most other nations. This is partially due to the fact that the US holds the position as the reserve currency for much of the world. Moreover, the US dollar is still perceived as a safe haven in an economically uncertain world. This factor has proven to be significant for maintaining the relative value of the US dollar.
The Bottom Line
Now you have an understanding of exchange rates and how they affect the real estate industry. However, you should keep in mind that the currency exchange rate in 2020 is unpredictable. So, if you plan to buy overseas real estate investment properties, you need to start watching out for the value of the currency in the foreign market. The same thing goes if foreign investors play a huge role in your local housing market. Sure, there might be nothing that you can do about the value of your own currency, but this knowledge will definitely help you make better investment decisions.
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