The strong growth trends in multifamily rents and property values in the past few years point to continuing positive fundamentals in 2017 for most metros, according to the winter 2017 edition of the Yardi Matrix U.S. Multifamily Outlook. However, Yardi does expect the rate of rent increases to slow, as well as a negative impact from an oversupply of luxury units, falling transaction yields, a slight drop in occupancy, and a lack of affordable housing.
Economic Outlook
Overall, economic growth was strong in the second half of 2016, with increases in employment, GDP growth, manufacturing, inflation, and retail sales. Yardi still expects moderate growth this year, but the economic policy changes promised by the incoming Trump administration remain uncertain in nature. The financial markets have grown optimistic, given the potential for lower taxes, fewer and looser regulations, and increased infrastructure spending and domestic production. Yardi notes that the Dow Jones Industrial Average, NASDAQ, and the S&P 500 all reached all-time highs following the election. If reductions to government regulations are enacted as promised, they could spur price growth and lending activity.
Potential pitfalls in the new administration include the uncertain state of the Affordable Care Act as well as a hard stance on immigration and a potential increase in deportation. The handling of the Affordable Care Act creates uncertainty for employers and health-care providers, while changes in immigration could exacerbate existing shortages in the labor force. President-elect Trump’s interest in renegotiating international trade deals could also result in an increase in tariffs.
An average of 180,000 new jobs were added each month in 2016, and unemployment sat at a cycle low of 4.6% in November. The Federal Open Market Committee has raised its federal funds target by 25 basis points, with three more increases targeted for 2017. Yardi predicts that, coupled with an increase in renter households, these trends will boost multifamily demand in the coming year.
Rent Outlook
Yardi expects the rent-growth deceleration that began in the second half of 2016 to continue into 2017. This slowdown has its source in metros where supply and demand are mismatched, such as San Francisco, Denver, and Austin, Texas, where high demand and low supply led to severe rent deceleration after rates rose higher than tenants could afford.
Whereas demand for low- to mid-rate units is high in most markets, most new supply is in the luxury sector. This is expected to lead to a slowdown in rent growth, at least until markets with above-trend supply can absorb their new units. In primary and secondary markets, high construction and land costs make Class B and C construction difficult. The resulting market bifurcation, Yardi notes, has created a surge in Class B and C rent growth as demand for lower-cost units remains strong.
Rent growth is expected to moderate to 3.9% in 2017, which, while low compared with the past two years, is still above the historical 2.3% average. Yardi expects the multifamily market to remain desirable to investors and renters alike over the next few years, especially given the growing cohort of millennials reaching the “prime renter ages” of 20 to 34, which is expected to peak at almost 70 million in 2024. This coincides with a trend of college-educated renters relocating to urban centers, as well as a dropping unemployment rate.
The number of renter households increased by 9.3 million between 2005 and 2015, while owner-occupied households fell by 2.1 million. Multifamily occupancy is near an all-time high, at 95.8% as of October.
Supply and Demand
Yardi Matrix predicts that 320,000 new units will come on line this year, which would mark a 5.3% increase from 2016’s 303,000 new units. This year may signal a peak for new construction, however, as new permits have leveled off.
Dallas leads new–apartment-unit supply, with 25,000 expected completions, followed by Houston, with 15,000 expected completions. Yardi predicts Dallas will be able to absorb new apartments easily while Houston’s weaker economy may lead to higher vacancy rates. As a percentage of total stock, Seattle and Miami are both expected to increase their apartment inventories by 5.5% in 2017. Conversely, Yardi notes, the Inland Empire, Sacramento, and the San Fernando Valley in California, all high performers in rent growth, have low expected completions.
Capital Markets
Investor interest in multifamily is currently high, with property values 50% higher than they were at their pre-crisis peaks and acquisition yields at 5.6% nationally in the third quarter of 2016, according to Real Capital Analytics. Concerns about whether the market has peaked have led to a slight slowdown in capital flow, but good market conditions have largely continued, fundamentals are strong, and property income seems stable.
Rising interest rates may upset this forecast, however. The 10-year Treasury rate rose by more than 70 basis points following the election, and the Federal Reserve intends to normalize rates over time. Yardi predicts that income should remain stable if interest rates don’t rise too high, but a slowdown in appreciation gains might occur if interest rates continue to grow.
Fannie Mae and Freddie Mac are originating at record levels, and the Federal Housing Finance Authority has increased its allocation to $36.5 billion for each entity, with more funding potential for affordable projects. It is unclear, however, how the GSEs might be regulated and restructured in the coming years.
Commercial banks and CMBS programs face a similar struggle. CMBS volume dropped by 25% in 2016, and many regional and local banks have moved away from construction lending, which makes assets in tertiary markets difficult to finance.
Overall, Yardi’s 2017 outlook is largely positive, with moderate rent gains and healthy demand expected. Rent growth is expected to decelerate but remain positive. Risks include weakening capital-markets forces, rising debt costs, and the supply–demand imbalance and its potential harm to transaction volume.
