Multifamily Boom or Bust

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BEVERLY HILLS, CA-I am constantly asked the question, “Do you think the multifamily market will continue to rise and perform well?” But that's the easy question, with a plethora of professionals who provide the answers and prognostications on a daily basis. Just in case you missed it, the brief overview is: demographics, decrease in home ownership, population growth, low interest rates, inflation, life style and mobility.

As stewards of the business and fiduciary's to our capital, we all need to get much better at analyzing risk and disciplined forecasting. So let me take the road less traveled and try to answer the more important question: “What could turn the multi-family boom to bust?”

Lack of income growth

I have seen countless underwriting models and forecasting that show three to six percent rental growth, almost in perpetuity, as if it is a divinely ordained certainty. The issue is that rental rates cannot continue to grow at a 3% or 4% compounded rate over an extended period of time while average income in the US is flat (See chart below).

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Beyond the effects of the great recession, incomes in the United States have been flat for more 20 years now! And one of the important lessons I hope we learned from the bust of the single family market is that incomes over an extended period of time have to keep up pace with the rate of increase in any given market. So ask yourself, how much longer can multi-family rents increase, year over year, while incomes remain flat? 

Multifamily Construction  

Multifamily construction from 2007-2010 was constrained and very limited across the nation. That may bode well for the industry's recovery and health, but the environment has changed. When compared with historical averages, supply is now swelling in most markets and we must monitor closely. The graph below is one illustration of a few markets where supply may be an issue in the near future.

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While lack of income growth and the surge in multifamily construction are two of the greatest concerns regarding the continued health of this market sector, they are not the only concerns. Investors and developers would do well to pay attention to the risks of the next recession, unemployment levels, interest rates rising back to historical averages and rising student loan defaults. 

Paul Daneshrad is the president & CEO of Beverly Hills-based StarPoint Properties LLC. The views expressed in this column are the author's own.