Higher Interest Rates Driving Demand for Multifamily Housing

After a short pause in rate hikes, the Federal Reserve once again raised interest rates by 0.25% at their July meeting. This makes 11 increases in the last 12 meetings.

Increasing interest rates slows economic growth, reducing inflation. It also raises the cost of debt. Unfortunately, the speed and volume of the rate increases generated an economic environment where prices and interest rates are elevated.

Now consumers are dealing with both high inflation and high borrowing costs. Creating a double whammy for consumer budgets.

For example, if you buy a car today, you are not only paying a higher sticker price for the vehicle but could pay more than twice as much in interest than loans taken out in early 2022.

So, while inflation fell from 9% last July to 3% in July 2023, consumers still feel the impact of higher loan costs across the board.

How Lenders Determine Interest Rates

The Federal funds rate is the rate banks charge each other for overnight lending. When the Federal Reserve increased rates, the Fed funds rate rose to 5.25 to 5.5%, the highest since early 2001.

That means the prime rate, which moves in tandem with the fed funds rate, rose to 8.5%. Up from the 3% it had been for nearly a decade.

Unlike Prime, mortgage rates do not directly correlate with the Fed funds rate. However, the Federal Reserve’s actions indirectly affect mortgage costs, and rate increases do cause mortgage rates to rise.

As of August 1, 2023, the average 30-year mortgage was 7.719%. More than double the 3.7% offered in February 2022. And even variable rate loans are 7.539%, not giving potential buyers many ways to reduce costs.

Higher Mortgage Rates Increase the Demand for Rentals

The 11 interest rate increases over the past 17 months have put homebuying out of range for millions of consumers due to these higher costs.

Let’s say you wanted to finance $400,000 to purchase a home using a 30-year mortgage. At the 3.7% rate, the payment would be $1,841 per month. On the other hand, that same loan today at 7.7% would cost $2,852.

Just over a thousand dollars more each month or an annual increase in payments of $12,132 for the same loan amount.

The increase in loan costs and elevated home prices continue to drive demand for rental units, particularly in apartment complexes across the country.

Andrew Justus, a housing analyst at the Niskanen Center, explained the situation: “They (renters) stay in the rental market longer. So, if existing renters stay, and new renters keep coming, the only thing that changes is price.”

While rent growth is no longer in the double digits across most regions, like it was during COVID-19, rent rates continue to rise. The first half of 2023 saw overall rents increase by 0.6%. When looking at rent rates by state, nearly 60% saw increases. In some states like Florida, strong rent growth is the norm. Comparing rates from March ’22 to ’23, rents increased 11.82%.

Limited housing supply and increased demand due to higher interest rates continues to create healthy multifamily opportunities in many real estate markets. If you are interested in working with an experienced team like McKee Capital Group, who understands multifamily housing and regional market dynamics, watch our introductory video.

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