How COVID-19 is Shaping the U.S. Multifamily Market

April 28, 2020

Prior to the COVID-19 pandemic, the U.S. commercial real estate market was experiencing low vacancy rates, manageable levels of new supply, and large cap rate spreads relative to the 10-year Treasury—factors which indicated a healthy real estate market. Now, as investors look to the future and envision what the world will look like post-COVID-19, we wanted to provide our perspective on the multifamily market outlook and share some recent trends which we believe are shaping its future.

 

1. Demand for existing properties is expected to increase as a result of a slowdown in new multifamily construction

One of the primary factors protecting multifamily properties from higher vacancy rates is the countervailing effect that slowing construction is expected to have on the industry.

Prior to the COVID-19 outbreak, this year was on track to reach more multifamily completions than the two previous years. However, persistent worksite health concerns and supply chain disruptions are leading to a prolonged construction decline. As a result, the number of units brought online this year may be reduced as much as 50%, according to Moody’s recent report. More specifically, The National Multifamily Housing Council’s recent construction survey found that 76% of respondents are currently experiencing issues with permitting, 41% are seeing labor restraints related to the virus outbreak affecting their construction operations, and 24% suffer from lack of materials which is impacting construction operations.

In response to the current industry challenges, construction firms are becoming more adaptive, with three quarters of NMHC survey respondents indicating that they have implemented new policies to deal with the hurdles forming in the wake of the virus. These efforts include sourcing materials from alternative locations, using technology to replace in-person transactions like inspections and approvals; and staggering construction shifts to reduce on-site exposure. However, these widespread construction delays are expected to have the unintended effect of enhancing the value of existing multifamily properties and providing countercyclical protection against high vacancies and rents, as evinced in Moody’s recent analysis below.

 

Some multifamily properties are still likely to take a hit as a result of the current economic situation. The level of financial leverage on a property will weigh in and factors such as collection rates will vary widely based on tenant composition. Having said that, we expect investor sentiment to skew positive within the long term, especially given that the slowdown in new multifamily completions throughout 2020 may drive investors to seek out opportunistic purchases of distressed properties which can then be profitably renovated and repositioned.

 

2. Financial hardship encourages apartment downsizing

With U.S. jobless claims hitting 26 million since the pandemic hit, renters increasingly lack the resources to withstand major income losses, which has sparked concern within the industry. However, the latest report from the National Multifamily Housing Council revealed that 89% of apartment renters made a full or partial rent payment by April 19, bringing rental collection rates up 5% points from the week before. However, this recent positive trend indicates that the multilateral actions being taken to protect working class families which are disproportionately exposed to structural unemployment impacts, have begun to take effect.

Furthermore, the current affordability crisis is impacting higher income households, according to a report by Harvard’s Joint Center for Housing Studies. During past recessions and periods of economic hardship, households trended towards downsizing to more affordable housing as renters became more price sensitive and moved downstream. With current conditions making it increasingly difficult for households to plan for a mortgage down payment the demand for middle-market rental options will increase.

 

3. Landlords are offering more flexible leasing options

In today’s shifting landscape, apartment firms are partnering with short-term rental operators to increase occupancy rates, with landlords seeing substantial income increases under their revised business models in some cases. This shift in turn may give more investors a greater appetite for rental properties, especially those with hybridized mixed-use spaces and health-oriented tenant offerings.

This strategic shift is driven by the dynamic nature of the national workforce and enabled by advancements in tenant management software and other technologically enabled overhead reduction solutions. Furthermore, these same change catalysts are driving the next wave of proptech innovation, with a focus on autonomous living and minimal co-mingled surface contact. And while luxury properties have and will continue to be at the forefront of the proptech and amenities race war, conscious design elements which go beyond aesthetics and focus on health and wellness are expected to become increasingly mainstream.

With approximately 95% of Americans currently under instructions to stay at home, COVID-19 has impacted the way tenants view their living spaces, as well as how building staff interact with visitors, delivery people and packages. As remote working gains more widespread acceptance over the long run and people begin to spend more time at home, even relatively simple improvements such as upgrading communal areas, establishing business centers and more responsive cleaning schedules for public spaces can make a substantial difference in tenant health and living experience.

 

In sum: investors should remain realistic while focusing on the silver lining

While borrowing costs remain at all-time lows due to today’s low interest rates, the multifamily sector remains relatively well-capitalized and in an arguably stronger position than many other real estate sectors. And while some property owners and operators may face short-term rent collection issues, existing multifamily properties remain in demand now more than ever, especially as people make increasingly conscious decisions about their living conditions. Therefore, while it’s important to stay informed of the latest industry developments and remain cautious and responsive to unforeseen market externalities, some of the evidence we’ve seen suggests that in spite of the multi-pronged challenges we are collectively experiencing as a nation, there continue to be significant opportunities within the multifamily sector.

If you’re interested in diversifying your portfolio in response to today’s economic undercurrent, iintoo’s current multifamily offerings may speak directly to your investment goals. For a closer look at our current offerings, log onto our platform here.


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