Apartment Values May Have Farther to Fall

Unveiling the Market's Secrets from Behind the Scenes

Author

Nuvo Capital
May 16, 2024

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“Multifamily now is in the crosshairs. This is really a balance sheet crisis. The Fed is very aware that it has a teetering regional banking system that loads about $700 billion, that are real estate loans [originated] in a low-interest rate environment, and the small borrowers are going to have a hard time refinancing.”

-Barry Sternlicht, CEO at Starwood Capital Group

Hi Nuvo Community,

New apartment construction has only experienced drastic Year-over-year (YoY) declines one time since 1996. This was during the GFC in 2010. This research examines the predictive relationships between the issuance of building permits for multifamily units, the subsequent construction activities, and their interplay with multifamily housing prices. If historical correlations hold, we haven’t found the bottom in apartment prices. All data is sourced from the Federal Reserve of St Louis.

Methodology

Our analysis utilized quarterly data covering several key metrics: the Year over Year (YoY) percentage change in permits issued for multifamily units, in multifamily units under construction (new supply), and the Multifamily Price Index. We employed correlation analysis and time series modeling to uncover leading trends and relationships among these variables. Notably, we investigated the potential of permits issued as a leading indicator for construction activity and its concurrent correlation with the multifamily price index.

Permits as a Leading Indicator

Our exploration into the relationship between construction activity and the Multifamily Price Index uncovered a strong correlation in the raw data. The Year over Year (YoY) percentage change correlation was weaker at 0.33, but still strong enough to indicate a relationship. This positive correlation suggests that as construction of multifamily units increases, the price index tends to rise as well, likely reflecting that apartment demand is strong. In simple terms, demand is high, prices rise, and developers build more to meet the demand and capitalize on higher prices. Notice in the chart below how “Under Construction” (blue) only turned significantly negative during the Great Financial Crisis. It is currently hovering around zero. So the question is, will new construction turn significantly negative for the first time since the GFC? Our best chance for answering this is to find a reliable leading indicator… Multifamily Building Permits

Permits

Our analysis revealed a very strong correlation when permit data was lagged by four quarters ahead of construction data. This suggests that the volume of permits issued today can predict the volume of construction activity a year later. This makes sense intuitively. You have to pull a permit before you can begin construction. The correlation coefficient at this lag reached as high as 0.81, indicating a strong predictive relationship. Notice in the chart below that permits (green) are down nearly 30% YoY. It is reasonable to expect that new construction (blue) will follow. 

Implications 

Using permits as a leading indicator, it appears that we’re about to experience another significant YoY decline in construction. If historical correlations hold, we probably haven’t found the bottom in apartment prices yet. This may be a function of the data that is being reported. Transaction volume has been lower over the last year, and property owners with assets that are worth significantly less than a year ago are reluctant to sell. Therefore, the data likely contains a higher percentage of higher-priced, newer vintage apartments. As more owners are forced to sell in the coming months, I expect we’ll see the data reflect lower valuations. 

All the best,

Yuri - Your Real Estate Investigator

Credit: Brian Underdahl, Chief Analytics Officer, Nuvo Capital Partners

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Question: 

In the context of multifamily property security, how do you develop and implement comprehensive security measures to ensure the safety of residents and protect the property from potential risks and criminal activities?

Answer: 

Developing and implementing comprehensive security measures in multifamily properties is essential for resident safety and property protection. This may involve installing surveillance systems, adequate lighting in common areas, secure access controls, and partnering with local law enforcement for community policing initiatives. Conduct regular security assessments to identify vulnerabilities and address them promptly. Implement community watch programs or engage with professional security services as needed. By taking a proactive approach to security, property managers can create a safer living environment and mitigate potential risks.

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Decoding The Dynamics Of Multifamily Investing with Brian Underdahl

In a compelling new episode of the More Doors Podcast, Episode 41 hosts a profound conversation with the Chief Analytics Officer at Nuvo Multifamily, Brian Underdahl. This episode, titled 'Decoding the Dynamics of Multifamily Investing with Brian Underdahl', explores Brian's unique journey from his initial career in sales, through his entrepreneurship ventures including a sunglasses company, to his deep dive into Forex trading which stoked his fascination with macroeconomic data.

Quiz of The Week

What does "Absorption Rate" measure in real estate?

a. The rate at which property prices increase

b. The rate at which tenants move out of a building

c. The rate at which available properties are leased or sold

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Random Tip of the Week

📝Plan for Capital Expenditures - Anticipate and plan for major capital expenditures in advance. This includes budgeting for significant repairs, replacements, and renovations that may arise over time. Having a dedicated fund for these expenditures ensures you're prepared for inevitable property improvements without causing financial strain or disrupting cash flow.

Current Rates (Weekly Update)

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1-Month Term SOFR - 5.31% (⬇️.01%)

About Nuvo Capital Partners

Nuvo Capital Partners is a niche market-focused multifamily investment platform operating throughout the Southeastern United States. As a dedicated sponsor (General Partner), we specialize in institutional quality real estate investments within these regions. Our team comprises industry professionals with 25+ years of combined experience, ensuring expertise and market knowledge. We pride ourselves on offering a transparent investment process, providing our investors with access to high-quality real estate opportunities while upholding integrity throughout.

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