We all know that investor sentiment has been impacted by concerns over rising interest rates, tighter lending conditions and a looming recession (if we haven't already experienced one).
According to the 2023 Investor Intentions Survey by CBRE, these factors and more have created expectations that more than half of investors will decrease purchasing activity in 2023 compared with 2022 levels. Amid lower pricing dynamics, 60% of respondents say they will either sell less than last year or not sell at all.
Despite the gloomy predictions, there's reason to be optimistic in the long term. While we may not see the Fed reverse their current rate hike strategy, it seems increasingly likely that a pause is in the cards as we've begun to see CPI & other core metrics begin their downturn (sticky service/wage related inflation notwithstanding for now).
While we're starting to see the impact of fast rising rates, we don't expect to see a quick reversal, it's more likely that we'll plateau at some point for a good amount of time until the Fed is convinced it's gotten over inflation.
We'll continue top see that impact in the multifamily market. The ongoing rate hikes have caused debt to become more expensive and less available, precipitating a rise in cap rates across asset classes.
According to CBRE: "Since Q1 ('22), the average multifamily cap rate has increased by 113 bps. Additional cap rate expansion is likely as the Fed continues to raise rates."
The increase in cap rates has been outpaced by borrowing costs, creating a situation that's unsustainable in its current state.
If borrowing costs were to decrease, it would relieve a lot of the pressure and cap rates wouldn't need to increase. We don't expect that to be the case, however, at least through most of '23.
Many property owners will need to refinance their debt or liquidate their assets, and that could create opportunities where well capitalized investors can pick up performing assets below replacement cost and at reduced prices.
As CBRE notes: "more investors are adopting opportunistic and distressed strategies to take advantage of market conditions."
Fundamentals of Strong Markets
One thing that hasn't changed for us at Blue Lake Capital is a business model focusing on strong markets.
As we've noted before, we look for demographics where there is some recession resistance, a strong job market that is likely to bounce back more quickly than others, and areas where there's been general stability vs looking for home run growth.
Many of these markets tend to be supported by a strong college presence, healthcare, and even tech, despite the recent job cuts in that sector.
"in 4th quarter 2022, college town markets saw positive quarter-over-quarter rent growth while national rents were cut to the tune roughly 1.0%. Similarly, quarterly occupancy change in college town markets has been about 30 basis points more stable than the U.S. overall in the past four quarters." - Real Page
The college town impact during downturns is one that you can't underestimate:
Higher education tends to hold up better than other sectors even when the broader market is experience job joss.
Many colleges and universities go hand in hand with regional healthcare centers, supporting higher paying jobs.
The presence of students provides a fairly steady demand for housing but also creates a multiplier effect of spending that can benefit local economies outside of the higher ed ecosystem.
Not coincidentally, you'll see quite a number of the markets we're targeting have a strong college presence as well.
Top Multifamily Real Estate Markets in 2023
In terms of specific markets, while we keep our deal flow active nationally, there are some regions and specific markets where we're paying particular attention and we feel best fit our demographic models, specifically:
Arizona (Phoenix), the Carolinas (Charlotte, Raleigh-Durham, Wilmington, Myrtle Beach/Conway), Florida (Jacksonville, Orlando, South Florida, Tampa/St. Pete), Georgia (Atlanta), Texas (Austin, Dallas/Ft Worth) and Utah (Salt Lake City).
While many of these Sun Belt markets have been the focus of investors, including Blue Lake, for some time now, we believe there will be continued migration to these regions and the job markets are better suited to sustain a recession with support from industries that can afford higher rents. There's just too much momentum here.
Despite the drastic increase in multifamily construction in many of these markets, we feel that demand will continue to outpace any new inventory that comes online over the next 12-18 months, especially with some of the challenges inflation is posing to projects that haven't broken ground yet.
- While we can't expect to see the type of growth we've experienced the past several years, many markets look better suited to survive a recession and bounce back quickly once conditions ease again.
- More investors will implement opportunistic and debt strategies than last year because of attractive returns amid higher interest rates and tighter financial market conditions.
- Economic conditions will create a window of opportunity for well-capitalized buyers to purchase assets at reduced prices.
We don't think that 2023 will be an easy market to navigate, but we do expect that we'll move through some of the negative rent pressures and rates will begin to plateau, then ease. We'll continue being active but selective & conservative, looking for deals that fit our model.
Ultimately, we feel that multifamily continues to be a great space to invest in, and that we'll be moving back into very positive territory in 2024 and beyond.
As always, Be Bold, Be Great and Keep Pushing Forward!
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About Ellie Perlman
Ellie Perlman is the founder of Blue Lake Capital, a commercial real estate investment firm specializing in multifamily investing throughout the United States. At Blue Lake Capital, Ellie partners with both institutional and individual investors to grow their wealth by achieving double-digit returns by investing alongside her in exclusive multifamily deals they usually don't have access to.
A defining factor of Blue Lake Capital’s strategy is founded in utilizing machine learning/artificial intelligence throughout the course of all acquisitions and asset management. This advanced technology enables the company to produce accurate and data-driven forecasting for all assets on a market, property, and even tenant basis. In doing so, Blue Lake is able to lead commercial investments with the full capabilities of today’s technology.
Ellie is the host of REady2Scale, a podcast that highlights the assets, processes, and strategies for the multiple approaches to successful real estate investing.
She started her career as a commercial real estate lawyer, leading real estate transactions for one of Israel’s leading development companies. Later, as a property manager for Israel’s largest energy company, she oversaw properties worth over $100MM. Additionally, Ellie is an experienced entrepreneur who helped build and scale companies by improving their business operations.
Ellie holds a Masters in Law from Bar-Ilan University in Israel and an MBA from MIT Sloan School of Management.
You can read more about Blue Lake Capital and Ellie Perlman at www.bluelake-capital.com.