The Effects of a Recession on Multifamily Real Estate

David Cohn
|
Jul 23, 2023
Recession

With 55% of commercial real estate business leaders predicting a recession in 2023, the CRE landscape is not looking too promising. To be ready for the possible economic decline, investors in multifamily properties must concentrate on cutting expenses and positioning themselves as buyers during this time.

What kind of recession should we expect?

According to the latest GDP data, the US economy grew at an annualized rate of 2.6% in Q4 2022. This follows a 3.2% annualized growth in Q3 2022 and confirms that the country did not experience a recession last year.

However, industry analysts anticipate a sharp slowdown in GDP during early 2023, mainly because while the economy is expanding, inflation remains out of control, leading to the possibility of further interest rate hikes. This could hamper economic growth and eventually lead to a recession.

The good news is that the downturn should be mild and relatively short, lasting only three to six—or nine months at most, according to CRE experts. There are several reasons for this optimism. Strong household and business balance sheets—along with tight labor markets— are among them.

Additionally, discussions about an upcoming recession over the past nine months have allowed both consumers and businesses to prepare for the possible downturn.

Even though some major businesses plan to reduce costs, the cuts are likely to be focused on positioning firms for a rapid recovery. Some analysts even say that if companies opt for strategic job cuts instead of large-scale layoffs, we may be able to avoid a recession entirely.

How will a recession affect multifamily CRE?

The consensus is that multifamily is in a better position to withstand a downturn, especially for longer-term investors. While the multifamily rental market may still be affected by a slow economy, the impact should be limited.

Moody's downside scenarios predict that multifamily vacancies may rise to 5.5% or even 6.0% from the current national level of 4.4%. This might seem like a lot, but it’s still better compared to the outlook for office and retail properties.

Some experts even go as far as to say that the market is at the beginning of a return to normalcy. While some segments have experienced an increase in vacancies, they are still relatively low compared to historical trends.

Rent growth may be slowing down but it is expected to remain at higher levels than before the pandemic in the short and medium term. The multifamily market may be benefiting from the challenges faced by the single-family housing sector. Real estate analysts predict that home sales will fall to their lowest levels since 2011.

But due to a shortage of inventory and insufficient new constructions, home prices are expected to remain stable, despite the high-interest rates.

The National Association of Realtors estimated that in 2021, there was a shortage of more than 5.5 million housing units, and it is unlikely that the gap has significantly narrowed since then.

All this means that the demand for rental housing will continue to be high, and the multifamily sector can expect to see sustained occupancy rates and rental growth shortly. Furthermore, if a recession does occur, the number of existing-home sales may decrease even further, causing more potential single-family homeowners to rent and increasing demand for multifamily properties.

But investors should remain cautious as the ongoing challenges in the broader economy may affect the multifamily market's performance. It’s also important to see opportunities that a recession might bring. For instance, construction costs may decrease as construction slows down.

This could allow well-capitalized apartment developers to introduce newly constructed buildings to the market at a lower cost.

How do I prepare my multifamily CRE for a possible recession?

For over two years, the multifamily sector has experienced outstanding performance with high demand for rentals, rising rental rates, and rapid demographic changes that have caused increased migration to new markets.

This has led to historically high occupancy rates and double-digit rent growth, resulting in significant returns for owners and investors in the sector.

But as we enter the second half of 2023, multifamily real estate is experiencing challenges from various angles, including increasing interest rates, supply chain problems, geopolitical concerns, record-breaking inflation, declining consumer confidence, and rent pressures.

To prepare for a potential recession, investors should consider streamlining their multifamily commercial real estate loan operations to identify inefficiencies and problem areas. For instance, you may opt for digital rent payment solutions instead of traditional payment methods to save time and money.

Monitoring economic data (such as household formation and job creation) is also crucial so you can prepare for possible economic problems in the area where your property is located.

Staying on top of key drivers of demand for multifamily rental units can help you make informed decisions about where to allocate your resources.

Finally, maintaining a fortress balance sheet is crucial for multifamily investors when the market is shaky. This means not overloading yourself with debt so that you have enough financial flexibility to weather a potential storm.

In a recession, multifamily property owners who are overleveraged may face foreclosure or be forced to sell properties to cover their debts, both of which could cause significant financial losses.

In contrast, investors who are not overleveraged can position themselves as buyers during a challenging economic period, allowing them to take advantage of the lower prices and distressed assets in the market. This is the most optimum position to be in.

Instead of being forced to sell properties, you can look for opportunities to expand your portfolio by acquiring new multifamily buildings that may have decreased in value during the recession.

Investing in the current market could be an excellent opportunity for those who have the financial resources to do so and can find suitable properties in the appropriate markets.

That said, investors must also adjust their expectations regarding yield projections as rising capitalization rates will lead to a decrease in real estate prices.

Despite this, however, investors who have the financial resources to withstand the current interest-rate environment should be better positioned to weather the storm over the long term.

To navigate this market, focusing on strong cash flow and obtaining fixed-rate loans that allow for rates to float mid- to long-term when interest rates decrease again could be a viable strategy.

The recent uptick in multifamily construction means a significant number of new units will become available in 2023, and this trend is expected to continue as it is typically more financially sensible for builders to invest in multifamily units than single-family units.

The new units could offer opportunities for experienced operators to adopt a value-add approach and profitably improve slightly older assets by bringing rents up to market levels and creating affordable, updated units for renters.

Conclusion

Multifamily housing has historically been a reliable asset class during economic ups and downs. It is largely viewed as a haven in recessions. Despite the current market challenges, there is no indication that this trend will significantly shift in 2023. To maximize the potential in this market, it’s important to have experience in effective underwriting and be adaptable to change business strategies.

If you intend to buy during this time, be sure to purchase properties at reasonable cap rates and finance with appropriate leverage. With some planning and quick access to CRE funding, multifamily investors can increase their financial resilience during challenging times and position themselves to thrive in the aftermath of an economic downturn.

Capital Investors Direct (CID) is ready to help you find the best financing solutions for your project. Our loan products include investment property loans, which are quick and easy to obtain. We also offer stated income commercial loans with minimal paperwork.

Additionally, we can connect you with commercial hard money loans and commercial bridge loans that have speedy approval processes for short-term financing needs. We also offer cash-out refinancing if you need to access quick cash from your existing commercial property.

Finally, we offer permanent loans that have high leverage, long amortizations, and low-interest rates to help you achieve sustainable financial goals.

Capital Investors Direct offers swift financing options for commercial real estate projects in various regions across the US. This includes all 50 states and US territories such as Puerto Rico and the US Virgin Islands.

We mainly fund projects in Tier I and Tier II Cities that are considered metropolitan areas, with a population above 50,000.To start, simply fill out our online form (it takes just 5 minutes to complete). Expect an offer from us within 24 hours, with complete information on all loan terms.

Should you decide to proceed, the funds will be credited to your account in a matter of days. This fast turnaround lets you take advantage of time-sensitive opportunities before they slip away.

Apply now or by filling up this form or contact us if you need more information.

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