As discussed in RealWorld 2018 sessions
As the apartment industry runs through its cycles, changes in apartment demand and demographics are fostered by economic fluctuation. And with the expectation that the economy is on the cusp of a new direction, multifamily strategies are likely to shift.
Various factors dictate apartment demand and how future renters look. In the current cycle, the industry adjusted to historic household changes and embraced young, single renters and empty nesters looking to downsize. But as younger renters finally start to marry, settle down and have kids and the working-age population growth slows, the nation’s apartment makeup is bound to look different over the next few years.
The strength of the economy is sure to be a factor on just how multifamily is reshaped. It’s likely going to be sooner than later that the already softening industry shifts focus with maturation of some demographics and depletion of others.
Economists predict the economy will recede by 2020
Economists say conditions for a recession are edging closer and that markets will start feeling the squeeze in earnest by 2020.
A signal, notes RealPage Chief Economist Greg Willett, is that the gap between interest for long-term and short-term treasury notes is tightening. Typically, long-term rates are higher than short-term but when the two intersect conditions have historically been ripe for a recession.
The gap has steadily closed since the fall of 2013, according to the Federal Reserve Bank of St. Louis, and dipped to its tightest in July. This fall, when the Federal Reserve is expected to boost interest rates by 25 basis points, it could get even tighter.
“In the best case, that’s going to put us at even at that point,” Willett said at RealWorld. “For the last seven times you’ve had this inflection between these two measures, we’ve had a recession within 18 months.”
Willett said it’s not a guarantee but multifamily investors and operators should nonetheless be prepared that one of the longest, most fruitful cycles the apartment industry has enjoyed is approaching the finish line.
“You can make arguments why it doesn’t matter to the degree this has occurred in the past, but I think if you’re planning for business strategies, given indicators out there at this point, it’s irresponsible to assume everything is still hunky dory two years from now.”
For the short term, indicators point to healthy apartment market
Willett said indicators continue to point to a healthy apartment market at least for the short term. A large block of additional apartment deliveries lies ahead and apartment demand appears favorable to cover the new inventory.
New supply volumes are likely to continue at an annual pace above 300,000-320,000 units through mid-2019, levels last seen in the 1980s, according to RealPage Analytics. RealPage analysts expect that plateau to remain for the foreseeable future.
Helping to fuel demand is that employment growth is pointing to new household formation. U.S. monthly job production, is healthy and on pace with 2016-17 levels despite tapering from its peak in 2014 when 2.5 million jobs were added.
Willett notes that the return of manufacturing growth is a key storyline in the recent overall employment picture but another is that increased investment by smaller businesses points to significant confidences in the economy’s direction.
A National Federation of Independent Business survey that measures small business expansion and investment posted its highest readings beginning in the fall and they’ve carried into 2018.
“Jobs being created now are actually coming in small businesses rather than corporate employment,” Willett said. “Small business owners tend to like some of the policies we’re seeing now and expanding.”
Also, solid consumer confidence is helping to spur retail spending, a key component of economic expansion.
Demographics and misaligned employer needs could signal change
But the demographics and misalignment of employer needs could make it tough to maintain today’s economic expansion pace in the next couple of years.
AARP and the Census Bureau report that 10,000 Baby Boomers are turning 65 each day, which means growth in the working-age population is slowing meaningfully. Also, today’s 6.7 million job openings slightly exceeds the number of unemployed people who are looking for work.
In addition, wage growth at 2.7 percent, as reported by the Bureau of Labor Statistics, is topping rent growth.
Willett reminds that a growing segment in rental housing is single-family homes. Build-to-rent space could play a meaningful role in inventory growth for the nation’s institutional capital firms, according to Rick Palacios, Jr., Director of Research at John Burns Real Estate Consulting, in a recent podcast on the rise of the single-family home rental industry.
The impact of prevailing conditions means total housing demand should remain robust for the next couple of years, although some expected cooling in the pace of job production points to demand off a bit from recent highs, Willett said.
“The apartment sector’s share of total housing demand should be solid, although some headwinds not seen earlier are now developing,” he said. “We think demand will slow down from where it has been, but still will be pretty substantial. And that begs the question, who will the renters actually be.”
Analysis reveals interesting trends in future renter makeup
RealPage applied data science and clustering analysis among more than five million apartment lease transactions across the country to get a picture of future renter makeup. A portion of the analysis looked at individual households and characteristics like age, income, pets and children in 25 major markets and 25 smaller markets.
Willett anticipated the individual makeup of the markets would compare to the current U.S. renter household segmentation, which is based on eight demographics. The top four are renters just starting out (29 percent), followed by young adult roommates (21 percent), “Perma Renters” (16 percent) and middle-income Baby Boomers (11 percent).
Of the major markets studied, Minneapolis looked most like the U.S. average in household makeup, and segmentation in Philadelphia and Charlotte was similar. But in most places across the 50 metros examined, the story wasn’t the same.
“The big takeaway is that in almost every other metro there was something different about one or two segments relative to what you saw in the U.S. average,” Willett said. “And there wasn’t an especially pronounced pattern in how they were different. You really have to deal with each one as a separate entity.”
Couples and renters moving up in the world fueling new product demand
Young adults are key components of the renter audience but in some markets they are an out-sized portion of the total. In Indianapolis housing is so affordable that older dwellers are purchasing homes, leaving a plethora of young renters. Similarly, Salt Lake City, San Jose and San Diego have high concentrations of younger renters.
Also, the data shows that roommate households have a large share in expensive metros but San Jose was well above the norm. There, 41 percent of households living in roommate arrangements are roughly double the U.S. norm.
Willett said the real fuel for new, luxury apartments comes from the “Moving on Up” and “Young Couple” segments. Groups consist of fairly affluent singles in their early 30s and couples in the mid- to late-30s that live close to jobs in the urban core and suburbs. Most are living in the fast-growing metros that have high home prices.
The biggest concentration of these demographics are out west, primarily in San Francisco, Los Angeles, Denver and Seattle.
“These are the people who have the incomes to really fuel that demand for the new product that we’re building,” he said. “It’s a stretch for these folks to actually get out there in the marketplace to buy some homes.”
Small metros with affordable single-family product had very few households for these groups, likely a byproduct of positive economic growth.
“They are not great choices for new apartment development,” Willett said.
‘Perma Renters’ an attractive segment for the future
Willett noted that one of the industry’s more interesting and under-appreciated segments of the renter population is the “Perma Renters,” households of one person at a median age of 42. They have a median income over $50,000 and rent-to-income ratio of 22 percent. Typically, “Perma Renters” live in Class B apartments in the suburbs and tend to renew a lease at least once. As Millennials get older, this segment is sure to grow, Willett said.
“To me, if I’m an owner and operator, this is a really easy segment of people to keep happy,” Willett said. “That makes them attractive.”
They’re also in pretty appealing markets like Washington, D.C., Atlanta, Dallas, Houston and Las Vegas.
Willett also noted that middle-income Baby Boomers − older singles with moderate incomes − only exist in limited numbers. Also, renters with kids tend to prefer single-family homes.
An interesting stat from the analysis is that although people with pets isn’t a huge demographic in the overall U.S. renter household segmentation, Denver is going to the dogs. More than 8 percent of households have multiple pets, compared to the U.S. norm of 3.5 percent.
“Denver looks nothing like the U.S. average at all,” Willett said. “It’s probably the most different from the U.S. norm. It’s an interesting economy and population in Denver. Look for that to be an outlier compared to the rest of your portfolio.”
Younger renters will continue to maintain grip on households
Willett said younger renters will continue to maintain a hold on the U.S. household renter segmentation for the future. While they don’t have high credit card debt, younger renters could be slowed in home-buying pursuits by high student debt. But how that plays out is an unknown.
“It’s hard to get a handle on that,” he said. “Are students paying off the debt or is mom and dad? While student debt is much bigger than it used to be, credit card debt among those households is much smaller. If I’m qualifying for a home loan, I’m looking at all debt. We’ll see how that comes together.”
Click here now for more information on the RealWorld 2018 session: Apartment Demand – What Influences Demand and Who Are Your Future Renters?