I saw this sign – “We’ve Got Equity!!” – atop a table in the hallway of the National Multifamily Housing Council’s Annual Meeting this week. It succinctly captures the sentiment of the conference and of rental housing investments right now. The tables have turned: Capital is now chasing deals, instead of dealmakers chasing capital.
There’s far more capital available than there are deals to be had. Developers and buyers of both apartments and single-family rentals have more options than ever in selecting the equity providers they want to work with.
What do we make of that? A few thoughts:
1) Whenever you hear such things, the first reaction might be: It’s getting too hot. Some might even use that “B” word that rhymes with “trouble.” But …
2) I’m reminded that real estate is all about underlying fundamentals. And in that lens, fundamentals have never been stronger — so it makes sense that capital has never been more readily available. Record low vacancy, record high rent growth and demand. And the vast majority of renters are seeing huge wage growth and they’re paying the rent on time.
3) The same is true on the debt side. Loan-to-value ratios remain around 6% and debt-service-coverage ratios around 1.6, both in normal range for the last decade or so. You could raise the flag of rapid appreciation in values, but most of the valuation growth has come in a segment (Sun Belt and suburban) that we’ve argued for years (pre-COVID) was undervalued relative to Gateway and urban. Demand fundamentals were ahead of capital in that regard until COVID hit and drew more investor interest.
4) The market is naturally protecting itself. When we say there’s more capital available than there are deals available, there’s an implied “good part” of that: Some funds are going unspent, and that’s a good thing. Investors are going to pay higher prices, but most aren’t going to spend for the sake of spending – and probably couldn’t even if they wanted to due to debt financing hurdles. Additionally, investors are often underwriting longer hold periods and smarter operational and cap ex spend (more reliance on tech and other low-cost solutions) to generate yield in what has historically been a rather inefficient space.
5) And, of course, remember that yields for everything are compressing. Whenever people talk about cap rate compression for apartments and single family rentals, you have to put that in broader context. Investors are looking for yield, and they’re targeting real estate in part as a hedge against inflation.
Bottom line: Is there risk? Absolutely. But the risks are macro. If there’s another black swan event and the economy stumbles, that’s trouble for everything — not just single family rentals and apartments. But there’s never been a “rental housing recession” independent of a broader economic recession, and there’s no reason to suspect one could occur now.