Renters Complained, States Listened, Owners Panicked
Affordability challenges have become an overarching theme, and perhaps the one dark cloud hanging over the sector. While the growing economy has led to increased wage growth, it has not been enough to cover the rise in rent for most markets. It has reached a tipping point; according to an annual report by the National Low Income Housing Coalition; a full-time minimum-wage employee can not afford to rent a two-bedroom apartment anywhere in the U.S.
Rent Control Legislation Introduced, Passed
In 2019, California, New York, and Oregon enacted rent control, and tightened their eviction policies. Meanwhile several other states have introduced new legislation to take similar measures. Some policies are tied to inflation, while New York has multiple tiers of annual rent increase limits, dependent upon the specific subcategory of rent control under which a given property falls. It is a confusing situation, to say the least; however, it does present opportunities for investors.
Recently passed legislation could also affect other markets across the country. For example, once the legislation passed in New York, sales volume and valuation metrics decreased in New York City but we saw the opposite occur across the river in New Jersey. This was likely a knee-jerk reaction; however, we believe secondary and tertiary markets such as but not limited to, Phoenix, Jersey City, Orlando, Raleigh, Austin, and Boise will see increased capital flow.
The Workforce & Affordable Housing
Given positive demand drivers, rent growth has been steady. Wage growth, however, has not kept up with the pace of change. Additionally, many metro areas, such as NYC, Seattle, San Francisco, and D.C. have experienced historically high levels of new supply; but much of that new inventory has been concentrated in Luxury and Class A units. As a result, the gap between take-home pay and rent has become worrisome, even burdensome on many. The growth seen in supply is not the case only for high-end units; the strong job market has increased demand for entry-level housing across most markets. In turn, workforce housing has delivered steady returns and favorable yields. Moderate and Lower-Income households represent a stable and sustainable long-term source of demand for apartments, owed to the fact that many of these households tend to rent out of necessity, rather than by choice.
Multifamily Buy/Hold/Sell Recommendations
Responses from the PWC (PricewaterhouseCoopers) Emerging Trends in Real Estate 2020 survey, reveal that at this point in the cycle, the majority of investors lean towards buying and holding affordable housing vs higher-end apartments.
Secondary & Tertiary Markets Emerging
Along with a strong economy comes rising construction costs. This leads to feasibility concerns for multifamily developers, among other repercussions. To justify costs, developers have, typically, built with one of two targets: big; or luxurious. This may no longer be the case. Interestingly, cap rate spreads between Class A and Class C properties continue to tighten, indicating that many investors are finding opportunities in lower-quality properties and within secondary and tertiary markets.
Buy/Hold/Sell Recommendations by Market
Tight labor markets and the extended growth cycle have boosted apartment demand nationwide. Workers are being forced to abandon primary markets due to astronomical rent costs. As a result, these now-high-growth secondary and tertiary markets will likely experience an even greater demand for workforce housing in the coming years.
How Low Can You Go?
Investor demand for multifamily is likely to remain bullish given strong demographics, a growing renter cohort, stable cash flows, and most recently, very cheap financing. Cap rates and expected returns remained at historically low levels in 2019 despite stabilizing in the second half of 2019. Interest rates compressed drastically over the last week as concerns about the spread of the coronavirus grow. The 10-YR Treasury rate slipped below 1.0% after the Federal Reserve cut the interbank lending rate by 50 bps.
Conclusion
Considered a sector with less volatility, multifamily remains the most reliable bet for commercial investors. Looking forward, macro trends for multifamily are strong when compared to other sectors. Coupled with liquidity, a steady stream of rental demand, and very low borrowing costs, multifamily properties are a good hedge in an uncertain economic and political environment. While the multifamily sector is buzzing along at a steady rate, changes are occurring, presenting opportunities for renters and investors.
