Class A Multifamily Rents Cool as Supply Hits Markets

Good morning,

Class A multifamily rents cool as supply hits markets, extreme weather drives up insurance costs, and the bifurcated retail sales market. Let’s delve into today’s topics.

📈 Market Update

🥶 Class A Multifamily Rents Cool as Supply Hits Markets

Four and five-star properties experienced robust growth during the pandemic. Class A posted 12.7% rent growth in 2021, above the overall market average of 10.7%. However, this segment is now exhibiting declining rents due to an oversupply of newly constructed upscale units. Vacancy rates have increased appreciably, and further supply is scheduled for completion this year, placing additional downward pressure on luxury rental rates. 70% (!) of new multi completions fall into the four and five-star market.

Despite Heat, South Florida Feels the Chill:
South Florida has been hit particularly hard by new supply. Occupancy declined across all submarkets in the second quarter of 2022, with landlords offering more concessions such as one month of free rent. South Florida observed rental rates increase 6.3% year-over-year in the second quarter of 2023 to an average of $2,500 per month. However, new inventory continues to be built, likely resulting in further rises in vacancies. Deal volume has also dropped 72% YoY. This moderation follows an exceptionally vigorous pandemic rental market that saw unprecedented rental increases.

🔍️ Outlook:
The oversupply of new Class A units is projected to produce further rental declines for four and five-star properties in the near term. However, a forecasted slowdown in construction starts may pave the way for the luxury segment to recover in 2024 and beyond. As excess inventory becomes absorbed over the next couple years, top-tier rental rates are predicted to stabilize and exhibit positive growth once again.

⛈️ Extreme Weather Drives Up Insurance Costs

Extreme weather is causing major insurance companies to pull out of high-risk states, leaving homeowners and businesses with skyrocketing premiums or unable to find coverage. Commercial property owners are passing on higher insurance costs to tenants through increased rents. Coastal states like California, Florida, and Louisiana are most affected, but inland areas are also now facing growing risks.

Rising Claims from Secondary Perils:
In addition to major hurricanes and earthquakes, smaller "secondary" disasters like wildfires, thunderstorms, and floods are racking up substantial insurance losses. Climate change exacerbates these secondary perils. Factors like inflation and litigation are also raising the costs to insurers. Reinsurers have raised rates and coverage limits in response. This has benefited reinsurers but squeezed primary insurers, some of which have exited markets.

⤴️ The Takeaway:
Severe weather is impacting more states across the U.S. Climate change models predict the risks and costs will continue to rise. Insurers are adjusting coverage and pricing accordingly. But premiums are becoming unaffordable for many homeowners while commercial properties face higher operating expenses. More states could become effectively uninsurable in the years ahead.

🛒 The Bifurcated Retail Sales Market

Retail sales volume plunged 51% in the second quarter compared to last year, however, this steep drop-off masks two diverging trends taking shape. On one hand, sales of large retail centers ($25M+) typically purchased by institutional investors have evaporated. At the same time, smaller retail deals under $3 million have emerged as a source of relative stability. These transactions now comprise 46% of the market's activity, up from just 33% at the peak of the pandemic.

✍️ Further Reading

• San Francisco Prices Are Sinking, and Property Owners Want a Tax Cut (BBG)

• No, Small Banks Aren’t Holding the Bag on Half-Empty Towers (BBG)

• China’s Deepening Housing Problems Spook Investors (WSJ)

• Experts Forecast Where Apartment Rents are Headed (GS)

• $1B Solar Panel Plant Eyed in New Mexico (CPE)

• Icon’s Multifamily Portfolio Barely Breaks Even. Why? (RD)

• Bank of England Hikes Rates 25 Basis Points but Fixed Mortgages Could Delay Impact (CS)

• Amtrak Teams With Investor Group To Revive High-Speed Rail Project in Texas (CS)

📊 Chart of The Day