Multifamily Real Estate Remains Smart Choice for Strategic Investment

Kurt Houtkooper, HZ’s CEO, recently shared his insights in an article for WealthManagement Real Estate’s 2023 Midyear Outlook; read the full publication here.

Multifamily has not had the same value deterioration as commercial real estate, but opportunities to purchase within the multifamily sector are thin. Operations remain strong for well-practiced apartment owners in strategic markets, providing a durable and predictable income stream and liquidity. Where issues arise, it is typically due to the poor use of debt and inexperienced operators.

Demand for rental housing continues to outpace supply by an estimated four million units, so there is a continued upside for growth. We do see pressure on the multifamily sector posed by new supply in major urban markets, particularly in cities like Dallas, New York and Phoenix; however, as a long-term investor, we like the long-term prospects of several of the cities where the supply pipeline is elevated. Nationally, there are nearly 1.2 million expected units to be delivered through 2025, which includes a precipitous drop off in the final year. Apartments currently under construction will be completed; however, it will be difficult to break ground on new construction due to the tightened lending environment.

In our view, suburban markets continue to present the most attractive investment opportunities. Experienced investors will look to markets that offer strong job growth, economic diversity, a low-tax/business-friendly environment, and the presence of critical institutions like government, healthcare and education. For investors looking for a predictable dividend, we recommend avoiding states with “non-controllable” factors, such as extreme weather, including Texas, Florida and Louisiana, as insurance costs and property taxes will limit distributable cash flow.

It is well-publicized that capital markets have posed a threat to investors in this recessionary environment. When capital markets freeze, valuations drop considerably due to borrowing costs. The only sector that has true liquidity on the debt side is multifamily. We believe this is a great time to buy apartments, because cap rates, which are now at 5%, present much lower risk. We have seen a shift from a seller’s market to a buyer’s market.

We are witnessing some distress in the market, mainly as the result of investment groups relying on floating rate debt. The reality is that longer-term, fixed-rate debt is only nominally more expensive and far less risky. Agency debt is also readily available and can provide attractive financing options. It is critical for investors to go with a well-respected, time-tested sponsor with access to favorable debt.

The industry appears to be reaching the end of money sitting on the sidelines and we anticipate that capital will again begin to flow in the months ahead. Regardless, smart investors will buy when others are hesitant, as less competition means better buys.

Once the property or portfolio is acquired, being an active owner-operator is essential to optimize the value of the asset. Finding and managing properties requires a great deal of work but pays off through improved operating efficiencies and increased property value over time. Sponsors with strong construction management and property management teams can positively impact asset performance through well-executed capital improvements and green initiatives.

In summary, the outlook is strong for investing in multifamily apartments in 2023 and the foreseeable future. It pays to do your homework, to understand the nuances of individual markets, and work with trusted, proven partners who share your vision. A good sponsor can make an average property perform well, just as a bad sponsor can make a property with good dynamics perform poorly.