After two years of record-breaking rent increases and occupancy rates, a quarter without records being broken is normal. Despite the economic slowdown and inflation, market fundamentals are strong in the multifamily sector, according to Kimberly Byrum, managing principal for multifamily for Zonda, a housing market research and analytics firm.
Byrum says that the slowdown in transaction volume during the second quarter is a natural outcome from the Fed rate changes and higher mortgage rates. She pointed out that the transactions that closed during the second quarter were in their due diligence phase in March and April, just as rates were spiking. Zonda will track the third and fourth quarter transaction volume to see how investors have adapted to the higher rates but anticipates that values could drop 10% to 15% by the end of the third quarter.
Supply pipeline in line with market demand
In general, multifamily completions are expected to accelerate in 2023, but Byrum believes that demand will outpace the increased supply. The pipeline in most markets is typical and in line with demand. In addition, most developers are reporting construction delays of as much as three months due to materials and labor shortages. Construction starts for new multifamily buildings are slowing due to permitting delays in many markets, Byrum said.
To measure pipeline strength, Byrum uses 3% of the market as a guide for normal supply growth. Some markets will see stronger growth in multifamily deliveries from 2022 through 2024. Those include:
- Nashville (new supply equal to 5.4% of existing stock)
- Austin (5.2%)
- Charlotte (4.8%)
- Raleigh (4.5%)
- Jacksonville (4%)
- Phoenix (4%)
- Orlando (3.2%)
- Denver (3.1%)
Three markets with significant population growth that have not seen a ramp-up in development that may offer opportunities for multifamily investors are Tampa, Las Vegas, and Dallas.
Occupancy rates, rents and loss to lease opportunity
Occupancy rates moderated slightly from their peak during the second quarter of 2022 but remained historically extremely high at 96.8%. Acting rents increased 25% year-over-year and Byrum said there’s no sign that rents are adjusting yet to the slight moderation in occupancy rates.
Eventually, Byrum anticipates some lease-up concessions, but that isn’t happening yet because of continued high demand. The current low rate of concessions in stabilized buildings is a sign of continued market health.
While average market rents rose 25% from the second quarter of 2021 to the second quarter of 2022, renewal rents averaged a 10% increase. Byrum said that REIT apartment owners reported renewal rent increases of 12% to 14%.
The rent surge overall offers a long-term opportunity to increase rent rolls and property value, Byrum said. Rent renewals were 57.1% during the second quarter of 2022, down slightly from 58.3% during the first quarter of 2022, but up year-over-year from 55.7% in the second quarter of 2021. Seasonally, renewals are highest during the first and second quarters every year, Byrum said. She expects renewal rates to return to normal, which is about 51%, in the coming year as the construction pipeline catches up with demand.
The slight decline in renewal rates during the second quarter offer a “loss to lease” opportunity for owners through effective renewal management, Byrum said. (Loss to lease is the difference between a fully rented building at market rates vs. the actual rent roll.)
Domestic migration patterns continue to favor affordable markets
Phoenix outperformed other markets dramatically over the past two years, with an increase in population of approximately 120,000. Other markets with significant in-migration between July 2020 and July 2022 include Austin, Tampa, Las Vegas, and Charlotte, all with more than 50,000 new residents.
These fast-growing metro areas were growing before the pandemic, Byrum said, so this is a continuation of that pattern. These top markets are all mid-sized apartment markets with about 200,000 to 300,000 units but with demand so high and multifamily building increasing, they are getting closer to becoming larger apartment markets.
Asking rent growth has been strong in most of the top markets, with renewal rate rent growth lagging by about 4% behind asking rent growth.