Over the past ten years, we have seen a significant evolution in the multifamily market as homeownership rates nationwide have steadily declined, reaching a 50-year record low in 2015. During a recent presentation for the Institute of Real Estate Management, Connecticut Chapter, I shared insights on national trends and the regional multifamily housing market. Here are some highlights:
Historical context: rise and fall of the multifamily real estate market
- Ten years ago at the height of the last real estate cycle, US multifamily investment sales hit an all-time high of $105 billion, driven in large part by easy credit and demand for residential and commercial mortgage-backed securities.
- The last cycle also benefited from an overwhelming appetite for residential real estate that resulted in the highest recorded homeownership rate on record (69.2%). In the multifamily sector, values were also fueled by the conversion of rental properties to condominium ownership, and led to the collapse of multifamily financial underwriting standards. A rapid rise in mortgage loan defaults resulted in the subsequent financial crisis. Major institutional failures led to drastic reductions in credit, as transactional volume cratered.
- By the time the dust settled in 2010, we saw the investment real estate market hit bottom, driven by an unemployment rate of more than 10%, homeownership rates down to 66.5% and tighter restrictions on the availability of credit.
Opportunity Knocks: cash and courage as multifamily fundamentals improve
- Starting in 2011, it became evident that reduced homeownership was a feature of the new economy. The forecast for net new renter households, combined with a weak multifamily construction pipeline, drove annual rent growth to over 6% as multifamily occupancy climbed to 96%.
- As investors picked up on these improving fundamentals, multifamily sales volume ramped up from $85 billion in 2012, to a record $139 billion in 2015, while the homeownership rate continued to plummet to a 50-year record low of 63.4% in 2015.
Where we are today: what to be looking for in 2016 and beyond
- Going into 2016, household formation continues to rise on the rental side, cost of debt remains at historic lows, and multifamily occupancy and rent growth appear sustainable. As long as these fundamentals remain strong, the multifamily market will continue to offer opportunities to prudent investors.
- That said, nearly 900,000 new apartments have flowed into the market over the past three years, with another one million new units still in the pipeline. Nearly 80% of these units are Class A, and we’re beginning to see some softness in occupancy and rent growth in this institutional grade market, as well as some hesitancy among lenders to continue to underwrite to lofty Class A valuations.
- However, all markets are not created equal. The Class B and Class C multifamily markets provide even greater opportunities to real estate investors. Demand for workforce level multifamily housing in Connecticut is strong, and the Class B and Class C multifamily markets have seen little new construction this cycle. Consequently, multifamily rents and occupancy continue to post gains in these asset classes above and beyond the Class A assets.
- Locally, the New York suburbs and Southern New England offer ample opportunity for Class B and Class C multifamily owners to reposition assets with cosmetic and capital improvements to create the conditions to raise rents without bumping into the expanding inventory of Class A apartments. As an example, strong demand for Class B rental housing in the New Haven, CT market has resulted in a booming market for undermanaged and/or obsolete multifamily real estate.
Moving forward, investors should keep an eye on these environmental factors in 2016 and beyond:
- Home ownership rates
- Job growth
- Supply / oversupply of multifamily housing
- Availability of credit
- Interest rates
- Yield alternatives
Real estate investors should closely follow market conditions and correlations, and enlist the assistance of a real estate professional with strong sub-market expertise.
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