Inflation is at a 40-year high and has consistently topped the news in 2022. At the beginning of the year, headlines brought attention to the record high gas prices and rising food and used car costs. Then in March, the Federal Reserve began raising interest rates, shifting the media’s focus. Speculation continues to swirl around what it will take to get inflation under control and if a recession is a forgone conclusion.
As a real estate investor, you may wonder (and worry) about how all this uncertainty impacts your current investments. And whether it is prudent to contribute more dollars to multifamily properties.
Here’s a closer look at inflation and its impact on multifamily rental rates and profits.
The Current State of Rent Rates
One of the benefits of participating in apartment syndications is the short lease terms across multiple tenants. The typical one-year lease gives landlords the ability to raise rates to reflect higher management costs. In addition to inflation protection, the large tenant pool reduces risks. A small number of non-paying tenants do not tend to significantly impact profits because short lease terms allow property managers to turnover underperforming contracts.
However, hyperinflation can cause rent rates to lag by up to 24 months because increases occur when the lease renews rather than as costs rise.
Despite the price lag, current rates have soared across the country. Year over year, rental rates increased by 13.4%, based on a report from HouseCanary. When considering the inherent lag in pricing, investors can expect rental rates to continue to rise at or above the inflation rate for at least the next two years due to the current economic conditions.
Home Prices Versus Rent Rates
Another significant factor in demand for apartment housing is mortgage rates. As interest rates rise, mortgages cost more, making it more challenging to get a home loan. To qualify, borrowers must put more money down, earn more, or purchase a less expensive home. As a result, many buyers are forced out of the market.
In 2022, mortgage rates more than doubled. A 30-year fixed rate loan was under 3% at the start of 2022. By September, rates exceeded 6%. Homeowners must now pay more each month for the same loan amount. For instance, a $200,000 loan at 3% translates to a monthly payment of around $843, not including PMI, taxes, or insurance. That same loan at 6% increases to approximately $1,200, a $357 difference. For many would-be buyers, this increase, combined with rising home values, means putting homeownership on hold.
As single-family homes and condominiums become more inaccessible, potential buyers often rely on apartment living in the interim.
Net Gains
Hyperinflation drives up prices on everything from homes and cars to food and gas. To combat inflation, the federal reserve raises rates, increasing borrowing costs. Higher interest rates stunt home buying because it prices many potential buyers (especially first-time home buyers) out of the market.
These economic and market conditions create a perfect storm for multifamily investors. The combination of higher demand and inflation means well-managed apartment complexes will continue to have high occupancy rates and pass on the increased operating costs to tenants in the form of higher rents.
If you are interested in learning more about investing in commercial real estate syndications, we created a short introductory video.
