As 2017 comes to a close, the multifamily housing market is now in its seventh year of growth and remains one of the most active investment classes for both private and institutional investors. Today, the industry’s 35 million residents currently drive a $1 trillion annual contribution to the U.S. economy. As investors remain cautiously optimistic in repositioning their portfolios and recalibrating their strategies for 2018, here are eight trends to watch for in multifamily investment for the upcoming year:
1. Challenges will be “the same but different” when it comes to potential oversupply, rent-growth moderation, higher valuations, and fluctuating interest rates. However, in making investment decisions it’s important to evaluate rent levels from a macro perspective, with the exception of areas of continued super-charged job growth. Rent moderation will continue to be a perceived challenge through 2018, as rents have increased considerably during this cycle. With the base amount so much larger, it will take significantly larger gross dollar increases to achieve the same percentage growth.
2. Operational expertise presents a dark-horse opportunity. The value-add space has become extremely crowded, and as a result, attention has shifted to new development and “post–value-add” opportunities that provide a more predictable cash flow but a potentially reduced upside in asset appreciation. The real growth opportunities for 2018, however, are in the operational expertise and efficiencies gained through management practices that control costs and offer more creative revenue streams.
With the increased focus on and competition for value-add investments, coupled with the lack of current yield in alternative investments, we’ll see more of a focus on those assets providing a decent current cash-flow yield, even if that means less back-end upside potential from value-add investments. Finding operationally underperforming properties that have “meat on the bones” is critical to winning competitively marketed deals.
3. Classes B and C will reign supreme, especially in the suburbs. Earlier this year, it was forecasted that Class B and C apartments were poised to have the greatest potential for high returns in 2017 and well into 2018. We’ll see a continuation of that trend as renters become priced out of Class A product and acceptance of the newly renovated suburban B product continues to grow. However, with fewer supply issues and wide-appeal rent levels from a pricing and rent-to-income standpoint, we’ll see investors focusing on suburban submarkets where Class B and C apartments are typically not affected by the new-supply issues facing the higher-end, Class A assets.
4. Sleeper markets are done. Between the surge in capital chasing real estate and the formation of countless new groups and enterprises this cycle, many agree we’re well past the time of the true sleeper markets. In 2018, we’ll see increased activity in tertiary markets such as Greenville, S.C., which may not provide a large MSA but offer a compelling jobs picture nonetheless.
5. Tertiary markets may be cause for concern, however. While tertiary markets present some compelling opportunities, many observers are concerned with liquidity in the smaller metros. One of the largest challenges in these “emerging” markets is that relatively minor changes in supply can create meaningful near-term disruption in occupancy and results.
6. Slow and steady demand will still win the race. Economic and political stability are important in maintaining the current strong fundamentals in the multifamily market. Legislation that leads to a rise in interest rates or lowers consumer confidence would surely hurt our industry, on several fronts. Furthermore, fluctuations in new-home demand and construction are historically proven factors in multifamily investment.
According to recent projections from BBVA Research, in the short to mid terms (through 2020), demand for both single-family and multifamily properties will remain strong, assuming that the economic environment remains relatively stable and there are no major policy changes. Some observers speculate that extraordinary growth in the economy would lead to elevated new-home construction and increased demand for single-family homes from millennials starting families, which would hurt multifamily fundamentals and reduce renter demand. However, the popularity of apartments among another sizable demographic group—baby boomers—should continue through at least 2020. The most likely scenario for multifamily, then, is slow and steady economic growth to accompany the balance of demographic demand.
7. Surprise power players will shape the future of multifamily as both Freddie Mac and Fannie Mae continue to participate in financing multifamily assets. Even amid post-recession speculation that the two GSEs would meaningfully curtail, and perhaps even eliminate, their future multifamily activity, Fannie and Freddie have continued to provide borrowers with flexible and attractive financing options. Their future will be watched closely in the years ahead.
8. The search for creative revenue streams will continue, with investors and owners looking to boost ROI as the multifamily cycle matures and fundamentals tighten. For the past several years of the bull market, most of the focus has been on the revenue side of the equation. As we inch toward the later stages of the current cycle, we’ll see owners and operators return their focus to controlling, reducing, and aggregating costs. Additionally, finding new ways to maximize ancillary income through sound processes and creative revenue streams such as door-to-door trash pickup, alarm systems, and washer/dryer rentals will become a competitive advantage in 2018.
