Institutions that once focused solely on multifamily assets are increasing allocations across a broader spectrum of rental housing strategies. Supply/demand fundamentals paint a fairly compelling picture for market-rate and affordable residential investments.
“We’re subscribers to the belief that the U.S. is undersupplied on quality product that is affordable to live whether you’re owning it or renting it,” says Michael Joyce, managing director, research and strategy, at Greystar.
Estimates on that shortage vary. According to Freddie Mac, the shortfall in market-rate housing alone across both for-sale and for-rent properties amounts to some 3.8 million units. Greystar places the shortage at closer to 6 million units.
Although apartments have long been a staple within real estate portfolios, capital flows into “alternatives” — single-family rentals (SFR) and student, senior and manufactured housing — have increased as those sectors have matured and expanded. Institutions are digging in to better understand the different demand drivers and demographics within those alternative sectors, and they are finding more transparency on performance and institutional-quality assets. “All of that has contributed to the broadening of investment to other types of rental housing,” says David Brickman, CEO of NewPoint Real Estate Capital.
Demand for housing remained strong even through the pandemic. The number of new households increased at an average annual rate of 1.6 million between the first quarter of 2020 and the first quarter of 2022, only slightly below the average in the two years preceding the pandemic, according to the 2022 State of the Nation’s Housing report, published by the Joint Center for Housing Studies of Harvard University. This increase is well above the Joint Center’s baseline projection of 1.2 million new households annually in 2018–2028. Soaring home prices in recent years coupled with the jump in mortgage rates also create bigger hurdles for renters to transition to homeownership.
“We’re very bullish on housing and shelter investments, and those can have many forms,” says Zachary Vaughan, a managing partner in Brookfield’s Real Estate Group and the global head of core-plus and perpetual real estate funds. Although multifamily represents its largest allocation, Brookfield Asset Management invests across the spectrum of different types of housing, including manufactured housing, student housing and SFR.
As long as inflation is in the economy because people have jobs and their wages are growing, segments such as rental housing are a great place to be because you can grow your cash flows as leases roll over, Vaughan says. “So, these residential assets in particular are demonstrating very defensive characteristics in the face of rising inflation,” he adds. For example, Brookfield’s multifamily portfolio is generating annual rent growth from 8 percent to more than 20 percent on new leases. At the same time, expenses within buildings are growing at around 4 percent.
These assets are demonstrating why they are such good inflation hedges, and investors are seeing that play out across their residential assets, whether it is multifamily, student housing, manufactured housing or single-family for-rent housing. “At a macro level in the U.S., you have growing household formations and not enough supply of new homes. That on top of a less affordable market for entry-level buyers is driving rents,” says Vaughan. So, the macro environment is very positive for rental housing. In certain markets, high construction costs are stemming new supply significantly, which further increases values, he adds.
RATE HIKES CREATE HEADWINDS
Investors have retrenched somewhat in the wake of higher interest rates, with fewer properties coming to the market and fewer active buyers. “The market is under some degree of pressure given the rising rates. So, that does challenge valuations. We’re seeing that in multifamily and all of commercial real estate,” says Brickman.
Although there is still a lot of dry powder allocated to multifamily and alternative residential strategies, that doesn’t stop investors from pausing because no one wants to catch the proverbial falling knife if property values drop, says Brickman. “Coming out of this volatile period of time, there will be continued interest in multifamily. But that doesn’t change the underlying fact that people want to buy at the right price,” he says. “Once we get greater clarity into where we are, both in terms of the national economy and what Fed tightening will look like, I think multifamily will continue on a growth trend in terms of both value and rent appreciation.”
Kayne Anderson Real Estate is an active investor, developer and lender in multifamily, student housing and senior housing. “It is a very interesting dichotomy right now because on the one hand, you have very strong fundamentals across all housing sectors, with strong demand and limited supply,” says David Selznick, CIO at Kayne Anderson. Rent growth has been quite healthy, ranging from 5 percent to upwards of 15–20 percent. Occupancies in multifamily are robust, and there is good lease-up and recovery in senior housing and student housing following some of the negative impacts on those sectors from COVID-19, he adds.
On the flip side, rising interest rates are creating concerns about repricing of assets. “For us, what that has done is created both a lending opportunity and a buying opportunity because pricing has started to come down,” says Selznick. As an example, Kayne Anderson has had a more difficult time buying student housing because pricing has been incredibly tight for the last three to five years, and now the firm is seeing buying opportunities at compelling risk-adjusted returns. The firm went under contract recently on a student housing asset located in a tier 1 university market in the Southeast.
In particular, Kayne Anderson’s core fund uses very low leverage at 35–40 percent and is less dependent on debt to generate yields. “Because we don’t need leverage to make our numbers work, it gives us a lot of flexibility,” says Selznick. The firm is finding situational buying opportunities, particularly among those owners or developers who may be under more pressure to sell. Selznick also expects to see a lot more sales activity over the next six to nine months as there is more acceptance from sellers on new market pricing.
HOLDING FIRM ON STRATEGIES
The main investment thesis across the different categories of rental living is much the same, in that there is a shortage of all types of housing in many markets across the country. However, each property type has its own unique nuances and demand drivers. “We approach each of those sectors very differently, and we have different models and different ways of thinking about growth,” says Joyce. Greystar is actively investing across apartments, student housing, senior housing, build-to-rent and urban living assets that cater to young professionals.
For example, within active adult, 55-plus age-restricted communities, there are some clear demographic tailwinds in the aging baby boomer population. Greystar also is digging into psychographic information to better understand where its target customer is located, versus relying on traditional economic growth and household growth, as is more the protocol with conventional multifamily. That data allows them to locate a very specific cohort of mid-market or high-end customers — not just targeting investment opportunities in Chicago, but identifying which submarkets of Chicago are the best fit.
SFR is one sector that is garnering more attention from institutions. “I really think single-family rentals are an amazing asset class. It is such a big investible universe that is being enabled by technology,” says Vaughan. In the past, buying rental homes in 20 different zip codes would have required an army to acquire, lease and manage. Now, a lot of those processes that had to be done manually with people on site can be done virtually, which creates efficiencies. “We view it as a great long-term income strategy,” he adds.
Investors do have to be cognizant of some of the unique challenges that exist in the SFR sector. For example, it can be difficult to acquire assets that generate a good income return in markets where there is a lot of home value appreciation. Investors also need to stay disciplined to specific zip codes and not drift too far out of those areas, which can lead to leasing and rent collection challenges, notes Vaughan. “It requires a lot of discipline, but it is a hugely scalable business,” he says.
Student housing is a sector that proved to be more resilient during COVID than many had expected, and many colleges and universities are seeing a strong recovery in their enrollment. “I think we’re going to see that yield premium that started to erode during COVID compress again,” says Joyce. In regard to its student housing strategy, Greystar has relationships and partnerships at the university level that give the firm good insights into enrollment trends and the supply pipeline.
THE BOTTOM LINE
Despite the strong appetite for housing, investors are mindful of potential risks ahead. Two big risks investors are keeping a close eye on are markets with low barriers to entry and markets that might put new rent restrictions in place. “The lack of affordability in housing general is a supply-driven problem that will take years to cure, not only in creating more units of housing but appropriate housing in the right locations,” says Joyce. “My worry is that it may be politically popular in the short term to do something around price controls that won’t solve the long-term problem of delivering more supply.”
Beth Mattson-Teig is a freelance writer based near Minneapolis.