Until recently, there was a clear path to homeownership. College graduates (young adults) would rent an apartment, often sharing it with friends. They usually rented until they had enough money to place a downpayment on an entry-level home, often just after getting married. However, the rising cost of homeownership has boosted the popularity of renting and has made multifamily investments more appealing.
A decline in home affordability due to the surging price of housing and rising mortgage rates has made renting more appealing. In fact, the gap between owning a home and renting an apartment is at its largest in 15 years.
A recent study from Redfin reported that the cost of owning a home was lower than renting in only four U.S. markets: Detroit, Cleveland, Houston and Philadelphia. Redfin discovered that throughout the U.S., the typical home costs an estimated 25% more per month to own than rent. However, a drop in mortgage rates would cause the homeownership premium to shrink. If mortgage rates fell to 5%, purchasing the median home would only cost about 10% more than renting it.
Forces Boosting the Price of Home Ownership
The median U.S. house price has soared about 38% to $550,000 from January 2020 to August 2023, according to Redfin data. Higher mortgage rates have negatively impacted home affordability, among other factors. According to the National Association of Realtors, the average monthly mortgage (based on average 30-year mortgage rates and home prices) climbed 85% in the past 20 months, from $1,212 in January 2002 to $2,243 this past August.
Mortgage rates have risen significantly in the past two years, and the average rate on a 30-year fixed mortgage climbed to 7.55% on September 27, compared to 7.42% the previous week, according to Bankrate’s weekly national survey of large lenders. The recent run-up in mortgage rates can be attributed to a robust U.S. economy, the Federal Reserve Bank’s 11 interest rate increases since March 2022 and a rise in 10-year Treasury yields, an informal benchmark for 30-year mortgage rates.
How have the higher rates directly impacted home affordability? In 2023, the U.S. national median income is $96,300, according to the U.S. Department of Housing and Urban Development, and the median price of an existing home sold in August 2023 was $407,100, according to the National Association of Realtors. Using a 20% down payment and a mortgage rate of 7.55%, the resulting monthly mortgage payment of $2,288 equates to 29% of a typical U.S. family’s monthly income. Last year, buying the typical home required 27% of a family’s monthly income.
With these higher costs, mortgage applications were at a 28-year low in February 2023, according to the Mortgage Bankers Association. Mortgage applications for home purchases fell in late September 2023 and were 27% lower than a year earlier. In addition, existing home sales have fallen so far in 2023, including a 0.7% drop in August, according to the National Association of Realtors. Compared to August 2022, sales of existing homes retreated 15.3%.
The Rental Alternative
The high costs of home ownership have boosted the popularity. As a result, rents have climbed in the past three years. According to a recent article from the National Multifamily Housing Council’s Chris Bruen, national apartment rent growth increased since 2020, averaging 6.3% annually among professionally managed apartments tracked by RealPage. The rate is considerably higher than the 3.4% annual rent growth averaged over the preceding five years, explained Bruen (4Q 2014 to 4Q 2019). Inflation has also risen significantly since the outbreak of COVID-19.
However, Bruen explains that while rent growth has outpaced inflation overall, real rent growth—or measuring the amount that rent growth tops inflation—has decelerated since early in the pandemic and has even become negative in some U.S. markets and unit categories.
In addition, a study from the National Multifamily Housing Council (NMHC) and the National Apartment Association found a shortfall of 600,000 apartment units in 2021 alone; the 2008 financial crisis is a significant cause for the underbuilding. For its research, the associations define apartments as rental apartments in buildings with five or more units.
The study projects that “amidst demographic shifts and lingering pandemic-impacts on the population and broader economy,” the U.S. must construct 4.3 million new apartments by 2035.
The study generated several key findings:
- The number of affordable units (with rents less than $1,000 per month) fell by 4.7 million from 2015 to 2020.
- Homeownership. Apartment demand also factors in a projected 3.8% increase in the homeownership rate.
- Immigration. Immigration is a significant component of apartment demand. Immigration fell before the pandemic and has not returned to pre pandemic levels. A trend reversal would boost apartment demand.
- Texas, Florida and California. These states account for 40% of future demand and will need 1.5 million new apartments by 2035, according to survey data.
Insufficient construction and development of apartments are an important component of rising rents, a simple example of supply and demand. Other demographic positive trends for multifamily properties include an aging population, a desire for a growing number of people to live alone, an increase in single-parent households and strong demand among millennials.
Strong demand for rental units, in turn, has benefited multifamily market fundamentals in the second quarter of 2023, according to CBRE. In the quarter, the U.S. multifamily market recorded 70,200 units of positive net absorption, the first substantial quarterly demand since the first quarter of 2021. CBRE also reported that supply and demand dynamics stabilized in the second quarter because the overall multifamily vacancy rate increased by ten basis points to 5%, equal to its long-term average.
Investors are taking note of the positive trends in multifamily real estate properties, according to CBRE. Investments in multifamily properties were $27.5 billion in the second quarter, which was lower than the approximately $96 billion a year ago. However, it represented a slight increase compared to 2023’s first quarter. Nevertheless, multifamily still attracted the largest share of commercial real estate investment volume in the second quarter with 35%.
In another CBRE study, multifamily property investment was preferred by 30% of global investors (it was the top investment category in the Americas as well, with 37% of respondents), the first time it captured the number-one spot in the survey’s seven-year history.
Finally, multifamily properties offer investors an attractive risk/reward profile, even in the current volatile economy. Despite the current issues that are impacting multifamily properties—such as the rise in national vacancies by ten basis points to 5% in the second quarter—investors’ long-term outlook for multifamily properties is bullish. Favorable trends in the sector include robust demand from several generational cohorts, such as the large millennial and generation Z populations, who currently prefer to rent rather than purchase a home.
Historically, the multifamily sector has been resilient during recessions, according to Sidra Capital. Current multifamily vacancy rates are lower than rates in previous economic slowdowns, and rental growth is robust. Even during the Global Financial Crisis (GFC) in 2008-2009, apartments’ (used as a proxy for multifamily properties) vacancy rates rose 0.75% versus an increase of about 2.75% in other property sub-asset classes, according to Cushman & Wakefield. Similarly, overall rental losses were 3.75% for apartment buildings, compared to as much as 13% for other types of real estate properties, explains Sidra Capital.
About CaliberCos Inc.
Caliber (NASDAQ: CWD) is an alternative asset management firm whose purpose is to build generational wealth for investors seeking to access opportunities in real estate. Caliber differentiates itself by creating, managing, and servicing proprietary products, including middle-market investment funds, private syndications, and direct investments, which are managed by our in-house asset services group. The Company leverages access to both the public and private markets to maximize value for its customers and funds. Our funds include investment vehicles focused primarily on real estate, private equity, and debt facilities. Additional information can be found at Caliberco.com and CaliberFunds.co.
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