February 10, 2022

JF2718: The Best Ever Q1 2022 Multifamily Update | Actively Passive Investing Show with Travis Watts


Will multifamily perform well in 2022? To answer this question, Travis researches and shares market highlights from the first quarter of 2022, focusing on what trends passive investors can expect in multifamily moving forward.

Want more? We think you’ll like this episode: JF2714: Survive Any Market Cycle: 4 Ways to Diversify Your Assets ft. David McAlvany

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Travis Watts: Hey, everybody. Welcome back to another episode of The Actively Passive Investing Show. I’m your host Travis Watts. In today’s episode, I want to give you guys just a quick Q1 2022 Market Update. I’m not sure when this episode is going to air, but I just want to talk about a few things that have been on my mind. As you guys know, I do a lot of research, I listen to a lot of different podcasts and webinars, I talk to a lot of my own mentors, and always listen to economists… I just want to share some of the highlights of things on my mind as an investor mostly in the multifamily space looking forward to this year and the developments that are happening.

I received a question the other day and it was something to the effect of “Will multifamily perform well in 2022?” We have to remember that all real estate is local. It doesn’t mean that you can arbitrarily go throw a dart out there and buy a piece of multifamily and then say “Sure, yeah, multifamily is going to do great this year.” It depends. And in fact, Moody’s Analytics put together a really nice visual on some data I was looking at. We have to remember that there are some markets that are actually projected to go down in 2022 as far as the price of real estate, while others are still anticipating, in some cases, a double-digit return on appreciation of real estate.

A couple of the markets that they alluded to would be Detroit, Milwaukee, and Baltimore as far as a decrease in both population and price of real estate… While other markets such as Atlanta, Charlotte, Phoenix, and Las Vegas are still on a nice uptrend. Also, pay attention please to the politics that are happening. I’ve talked a lot about landlord-tenant laws, and what I’m looking for as an investor is that the laws favor the landlord. I was just speaking with an investor the other day who owns a real property in California. He was telling me that because of rent restrictions or what we call rent control, he can’t raise his rent on this property by more than $54 per month. At the same time, his property tax has gone up more than $54 per month. In other words, he’s locked into this investment that is slowly losing money, which is pretty crazy. Maybe not so much on the price appreciation, time will tell that, but at least from a cash flow perspective, he’s on a downtrend.

We’ve also seen this in the news, markets like St. Paul have also implemented rent controls. I try not to invest in areas like this; it can really limit your potential returns just from an obvious perspective. But it’s actually not a good thing, in my opinion, just economically. But that’s for another discussion so we’ll leave it at choose your markets wisely, do your homework, do your due diligence.

If you want to dive deeper, we recorded an actively passive Show episode back in 2020 – I think it was released around December – and it’s called how a passive investor vets a market. So check that out if you’d like some more info on it.

On a side note here, single-family homes are, as we all know, getting more and more unaffordable for those who are just about to take the leap into homeownership or trying to save at their job to get a down payment put together when we’re seeing — I think it was like 15% price appreciation in 2021. It makes it awfully hard to save and keep up, simultaneously, while you have 7% inflation happening. I’ve been listening to what a lot of the gurus have to say, which – I do not include myself in this category. I’m just a guy who does a lot of research, tries to extract what I feel are the best and most critically important components to that, and share it with you guys in a simplified manner. So I’m not the guru myself, but I am one to listen in to different sides of the coin and try to figure out what’s going on. I’ve heard a lot of people speak out about this affordability crisis, which quite frankly, we’ve had for a long time in this country, but has progressively gotten worse in the last 12 months or so.

Some people think that the government’s going to have to intervene, step in, and expand things like the Section 8 housing program or launch a similar program which is basically rental assistance for people to be able to afford their rent here in this country.

The other thing that’s been on the proposal table, at least – I think it was the Biden administration – some kind of first-time homebuyer tax credit where maybe you get $14,000, or up to that amount off the purchase price or down payment of your first home. But it may be not so great, too; if you think about it, back in the Bush administration, they gave out these first-time homebuyer credits through… I think maybe that was the Obama administration. But I was actually part of this, by the way. I bought my first property with a first-time government tax credit. Well, that brought people out of rentals and into owning homes. So it may or may not be good, financially speaking anyway, depending on what happens.

Alright, moving on. I want to dive in a little more to inflation. I know I’ve talked about a lot on the show recently but I just want to highlight some new things that I haven’t talked about before. We have talked about that inflation is running approximately around 7%, and these are government CPI numbers. So this is not a conspiracy website saying it’s higher than what the Fed says, this is real government data, which depending on your beliefs there, might be much higher than seven. But they’re saying around seven, so let’s roll with that. 2021, a lot of what my personal investment portfolio saw was about 10% rent bumps on these multifamily properties that I invest in, which is just outrageous; certainly not the norm. Most of my portfolio is in the Sunbelt region, so we’ve got some taxes in Florida, and even some other markets, in Colorado Springs, I’ve got some deals out in Ohio… But in general, all these markets perform very well. An average rent tick-up might be somewhere around 3% a year and we’re seeing 10%. That kind of fast-forwards the acceleration of the business model about three years. What that meant is that a lot of sales happened. It was just time from a GP perspective to go ahead and offload the property as we met or exceeded our initial projections.

And I was reading that there were 10 markets in the US –I don’t have them here in front of me right now– that actually went up 20% annualized year over year rent growth which is just astronomical; it blows my mind. Now obviously, the name of the game is to not just bump rents on people, but they have to be able to afford these rents. In a perfect world, the wages would be going up at the same pace that we’re bumping rents, so that no one’s having a more difficult time affording a place to live. To that point, fortunately, we are seeing wage increases happen, in some cases higher than inflation numbers, and in other cases not so much, but still happening. I think we’ve all seen the billboards and the signs “Now hiring”, or a $1000 sign-on bonus to go work at a fast food joint. I saw, in my market, $18 an hour to work in a grocery store. Not too long ago, in one of my first W2 jobs, I was making $7.25 an hour, are you kidding me? I would have killed for a grocery store gig at 18 an hour; that would have just made my dreams come true back then. It’s crazy what we’re seeing in today’s world.

The pros of inflation – I know that’s some good news and some bad news there, but in terms of real estate, the pros of inflation is that multifamily apartments are primarily driven off the net operating income. You’ve got expenses and you have income, so kind of plus and then minus equals net operating income. So when you’re seeing seven, eight, nine, 10% in some markets, 20% rent increases, that is absolutely incredible for net operating income… Because if you have a 400-unit property and you’re able to raise rents 10% per unit, times 400, you literally just made millions of dollars on that property as far as the valuation is concerned. Very bullish for multifamily cash flow, what’s distributable to investors, but also IRR numbers and equity.

Another thing to think about is that rent trails behind the prices of real estate. In other words, if real estate just goes up today – we’ll say in a hypothetical example, it goes up 10%. Now I purchase a property 10% higher than it was a month ago. Well, now I have to bump the rents in order to make the numbers work. So that rent bump though is going to be behind; I make the purchase, I do my renovations, and all my stuff. Then several months behind now comes the rent bumps. I may not do it all at once, I may trickle it in over time, so it’s not such a sticker shock.

The point is the CPI, consumer price index, is comprised about 30% of housing, and it’s not being reflected just yet in those CPI numbers. I still think we have some tailwinds here, I still think that we have some room to grow, and I think that inflation is here to stay, at least for the… We’ll call it the intermediate-term. In other words, I don’t think next month we’re going to see this massive drop off from seven to two, or what the Fed likes to say that their target is 2% by the end of the year. Again, we’ll see, I don’t know; I don’t have a crystal ball. But I do know that things are lagging behind as far as data, and as we catch up, I think we’ll see a true reflection of what’s happening here today.

Break: [00:12:56][00:15:06]

Travis Watts: The bottom line is that real estate is a hard asset, it’s an inflation hedge. The reason that is, is when you’re buying real estate, whether you’re talking about a single-family home or an apartment building, you’re basically buying or investing in a basket of commodities. Think about it – you’ve got steel, glass, lumber, copper, and tile… So if these individual items are going up in price in the real world, if you go to Home Depot and you’re seeing the price is higher, then the price of real estate’s going higher because, essentially, that’s what you’re buying. The reason I love real estate is that it always holds an intrinsic value. A piece of real estate doesn’t just disappear like a blip on radar on a digital screen, it’s a physical place that can be used for different purposes. If nothing else, if it burns to the ground, hopefully, you have insurance. And even if that doesn’t happen, well at least you have the plot of land and something could hopefully be used on that plot of land. So there’s always some kind of value to it.

Alright, switching gears… Let’s talk about interest rates a little bit. The big talk right now is that the Fed says “Hey, we’re likely increasing rates in the nearby future, and we’re going to stop the Fed taper.” In other words, they’re not going to be buying $120 billion worth of bonds. Let’s talk about how that might affect real estate. Well, first of all, a lot of people, as I’ve been talking about for years now, are chasing yield. Cash flow has gotten a lot more difficult in modern times, to get.

I was listening to Tony Robbins, one of his older 1998 Get the Edge series – it’s like a seven-disc CD series of motivational stuff.  One of those discs is on financial, and I just had to laugh, because he said “Money is simple, you can just put your money in the bank, collect 8% on it”, going into this whole strategy about 8% yield in the bank. There was a time when that was true, but that is not true in today’s world. And it’s unfortunate, because we have so many baby boomers retiring and so many pension funds that just really need to get yield. They need cash flow, and it’s tough to find, and prices have been bid up, and the stimulus has just made things really difficult.

So what you’re seeing right now is a couple of different things. Because when you put your money in the bank, you’re basically getting nothing on that money, essentially, almost 0% or maybe 1%. And coupled with that, you’re seeing about a 7% inflation rate. People are trying to get out of cash; they don’t want to be in cash, because your purchasing power –if inflation is 7%– is dropping by 7% a year as you keep cash in the bank. Who wants that? Nobody. So where do you put it? Well, you put it into the stock market and you put it into real estate, hence why we saw a 28% stock market increase last year and 15% in real estate, something to that effect. It’s just been crazy.

On top of that, we have a severe supply-demand imbalance. What that means is we have a lack of supply of affordable housing in multifamily and single-family all in the United States. This is nothing new, it has been happening for 15 to 20 years. But here are some crazy facts to think about. In 2021, there were about 285,000 new livable units or households that were made available. That sounds like great news, but the problem is we had 1.4 million new households looking for a place to live. That is a massive supply and demand shortage. If you want to look at the big macro level, we’re 6.8 million homes behind in general. Good luck delivering that number of homes in a timely manner; it’s going to take years and years. Because of this supply and demand imbalance, that is one reason why we’ve seen prices shoot up the way that they have.

Alright, let’s now talk about the cons of interest rates rising. Generally speaking, when interest rates rise, the price of real estate decreases. Again, generally typically, historically. Why would that be? Well, first we’ll use a single-family home as an example. With a single-family home, if interest rates go up, your mortgage costs more so it becomes more expensive to own a home, simple as that. The affordability becomes less or the purchase price has to come down so people can meet the middle on what payment they can afford per month.

Multifamily, for example, gets accelerated on even a larger scale. If you think about multifamily units going from 3% to 4% interest rate, and now all of a sudden, you’re having to pay 200,000 more dollars per year, that inversely diminishes the net operating income. Now, the purchase price is less because the property generates less income because of interest rates.

Before this episode, I went on Google and I brought up a mortgage calculator. I just wanted to do this for fun for my own amusement, but it’s worth sharing. So if you took a 300,000-dollar home today in 2022, you put 20% down, you went to the bank and financed it, your mortgage payment is going to be somewhere in the ballpark of about $1,012.

Obviously, a lot of variables with insurance, property tax, and all the rest, but just hear me out on this example, $1,012. Now let’s say that the Fed comes out and says, “Hey, we’re bumping interest rates up.” Now that mortgage rate went from 3% all the way up to 4%, which would be a pretty sizable and substantial move up. Now that same mortgage payment is $1,146, so that’s $134 change up. So my question to you in regard to how will real estate be affected or will real estate start to fall in price as interest rates go up is this – knowing that rent is on the rise, has been, is today, will continue to be more than likely, will $134 deter someone from buying a home? It’s definitely something to think about with the amount of money chasing yield, people trying to get out of cash, inflation on the rise, and at the same time, the Fed is saying that we’re going to incrementally be raising rates. It’s a great question, and quite frankly, I don’t have the answer. But I want to pose that as a question for you to answer for yourself. Are you still bullish on real estate, knowing what’s going on with supply and demand and all the rest?

Another way to think of it is if you’re a renter today paying $1,200 a month in rent, which is pretty much on the low end these days, and your rent went up 10% – that’s $120 per month, so almost the same numbers there. Now whether that happens in one year or two years, we don’t know. But the point is, if you bought a home and locked in a mortgage, that payment doesn’t really change. You’re locking in, hopefully, a 30-year fixed rate or something like that. I don’t know what the government’s going to do, I don’t know what renters are going to do, I don’t know what homeowners are going to do, but what are you going to do? That’s what matters.

Thank you, guys, so much for tuning in to today’s episode on The Actively Passive Investing Show. I’m your host, Travis Watts. Have a Best Ever week and we’ll see you next time.

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