The US multifamily market looks very different from Canada's, and that may be key to its appeal
It now seems far more likely than not that the United States achieves a ‘soft landing’ or even a ‘no landing’ scenario as it begins to emerge from the most recent interest rate hiking cycle. That success can be largely attributed to the US consumer who seemed to fly in with a red cape on every time the US economy appeared to be lagging, propping it back up with higher than expected confidence, resilience, and spending. In a recently published outlook for the US economy and its multifamily real estate sector Morguard explained some of the forces that have kept the US so resilient and outlined what those forces mean for apartment investments in the world’s largest economy.
Keith Reading, senior director of research at Morguard outlined why he expects the US economy to remain resilient and potentially avoid any periods of negative growth. He drew a line between that still-growing economy and the multifamily residential sector before outlining how US apartment housing differs from Canada’s in terms of supply and demand dynamics. He explained why and how those differences might be advantageous to Canadian investors and highlighted a few of the US markets that he thinks offer the best prospects.
“When you’ve got an expanding economy, you’re creating jobs and that is typically good for multifamily residential,” Reading says. “We also anticipate interest rates coming down to where they were prior to 2022 and 2023, but we don’t see them coming down to pre-COVID levels, which means housing costs will be somewhat elevated which means many families will continue to rent. The other outlook is population growth…So I think the outlook is relatively healthy, at least from a demand standpoint.”
The issue facing US multifamily, from an investor’s perspective, is a glut of supply. 2023 saw a record number of new rental apartments built or completed and the US will hit a similar level of completion in 2024 as well. Reading estimates the US will add another 400,000 units and demand is only strong enough for around 350,000 new units. That delta between supply and demand will result in higher vacancy rates and slower rent growth.
A combination of economic growth and slowing construction should bring demand and supply back into alignment in the medium term, Reading says. The lagged impact of interest rate hikes should see construction projects slow, but because rental apartment construction typically takes two to three years this imbalance may remain in the short-term.
So why should Canadian investors be interested in a rental market with more supply than demand? Canada is in a housing crisis and our domestic apartment REITs are one of the great beneficiaries, with rents growing at a rapid pace. While Reading acknowledges that Canada may look more attractive from an immediate returns perspective, there are a few areas that longer-term investors may want to be aware of as they look at the US. Namely, access to a wider market and access to newer product.
Novelty is a major factor in apartment investing. Most of Canada’s rental stock was built in the 60s, 70s, and early 80s and while rents have climbed so too have capital expenditures as maintenance bills grow. Because so much of the US rental stock is new, capital expenditures are significantly lower. Moreover, many of these buildings come with technological efficiencies that should reduce that capex down the road.
Because supply is so limited in Canada, too, there is more competition among investors for ownership and access. The cost to invest is therefore higher, regardless of whether it’s a pristine new building or an aging concrete tower. In the US, reading says, investors have greater choice in terms of the markets and buildings they want to invest in.
The US is also a much larger market, with a wider array of opportunities and different regional dynamics that can help balance out the risks that can be found in Canada. During the pandemic the story of demand revolved largely around sunbelt states like Florida, Arizona, and Texas. Now, however, Reading sees great opportunities in the larger established Northern cities like Chicago, Boston, and Washington DC. These are mature markets with massive economic engines. These cities offer apartment buildings with the potential to deliver consistent cashflow and stable returns in the longer-term.
“Stable is not sexy to everyone, but if you’re in the real estate business you want to generate strong and stable investment returns, these are the markets,” Reading says. “That’s what investors want, they want low-risk attractive returns, in part because markets have been relatively volatile over the last little while. If I look at these markets, the fundamentals are pretty healthy from a rental market standpoint.”
