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Hedging Against Inflation: What Can Multifamily Investors Expect?

By News Creatives Authors , in Small Business , at January 1, 1970

Founder of Vive Funds, a unique multifamily investment firm specializing in curating high-quality assets for our investors.

There are many definitions of inflation. The U.S. Federal Reserve defines inflation as the general increase in the price of goods and services over a period of time. The Federal Reserve monitors inflation by following several price indices that represent a broad swath of an economy. Price increases in some indices may not necessarily indicate inflation but rather certain conditions that prevail due to seasonal parameters. For example, poor harvests of grain due to insufficient rainfall may lead to price increases. However, as the supply chain directs grain to markets of high prices, these spikes can flatten, and increases in prices are temporary. Therefore, there is as much art as there is science in the determination of inflation. The Federal Reserve closely follows trends and adopts various measures to combat inflation. These include constraining the money supply and raising interest rates.

Much of the world has seen low rates of inflation over the last few decades, and I think this has been a very positive factor in the overall economic growth of economies. In the U.S., inflation averaged 3.8% during the period from 1960 to 2021. However, the global pandemic’s disruptive effect on global supply chains coupled with other recent events has led to inflationary pressures, with U.S. inflation at 7% in 2021 and predicted to climb further. This is the highest in almost four decades (paywall). The Federal Reserve has already indicated an outlook of a tightening of monetary policy and an increase in key interest rates.

Hedge Against Inflation

Inflation at these levels is bound to eat into the purchasing power of the public and curtail growth. This has many wondering how to protect one’s investments in an inflationary economy. There is no easy answer and many experts suggest myriad strategies to cope. Some of the suggested ways to hedge against inflation are as follows:

• Gold: Gold as an inflation hedge has both proponents and opponents. Proponents often argue inflation increases the value of gold over long periods of time. Others point out despite the 7% spike in inflation, the price of gold has risen only 1%, which would rule out gold as a hedge against inflation.

• Reducing bonds and increasing stocks in a portfolio: Bond markets typically do not do well in an inflationary economy. Some experts have suggested transitioning some bonds in a portfolio to stocks. A 60/40 stock to bond balance has often been suggested. However, while it has some hedging value, I’ve found they usually underperform in the long run.

• Treasury inflation-protected securities (TIPS): Since interest rates are set twice a year, TIPS are seen as a hedge against inflation. However, if you have deflationary conditions, interest rates will adjust downwards.

These are a few strategies that are available among many. None of them are perfect, and they all have to be approached with caution and knowledge. As the founder of a multifamily investment firm, I know that real estate, especially multifamily, offers very attractive reasons to be considered as a hedge against inflation.

Multifamily real estate is a need-driven asset. When economies grow or shrink, one indisputable fact is the need for housing. Many people cannot afford to buy single-family homes, making them multifamily customers. Others want to live a lifestyle without the responsibility of owning a home. Such segments of society gravitate to living in multifamily units.

Multifamily Investing

I’ve noticed that many multifamily units have evolved over time to become a community of dwellers rather than just renters. Many multifamily units achieve a sense of belonging and camaraderie by hosting regular social programs, offering attractive “congregative” amenities such as pools, clubhouses, dog parks and play areas for kids. While these amenities can be used as strong selling points, they also serve the purpose of acting as a subtle anchor against moving. These investments in infrastructure can pay back by reducing turnover.

Some turnover should be expected and accepted because this allows for increasing rents in inflationary and noninflationary times. If rental contracts are structured properly, the contract end of life is staggered throughout the year. Each new rental contract offers an avenue to increase rents. The multifamily ecosystem has advantages built in that allow investors to reap benefits regardless of the state of the economy.

In inflationary and noninflationary times, rent increases are a part and parcel of renting in multifamily. Renters expect increases when their contracts are up. Vacant units can command premium rents through upgrades—new counters, cabinets, utility ranges, etc. While acquiring new renters costs more money than keeping renters in place, I’ve found vacant, upgraded units usually rent at a premium, thus having a very positive long-term financial impact. If properly managed, rent increases can mitigate inflation.

The Challenges That Come With Inflation

Conservative underwriting is critical during periods of inflation. Project viability should be considered under several inflation scenarios. Currently with inflation at about 8%, a concomitant increase in interest rates could be prudent. However, I’ve found higher inflation and interest rates work in favor of multifamily. As mortgage rates go up, the number of home buyers tends to drop while those seeking to rent increase. Using smart AI driven software, it is possible to maximize new rental revenue and also renewal rental rates.

In my experience, the main issue that crops up with multifamily is the increase in costs. Carefully managing cash flow is key during higher inflationary periods. Projects that are cosmetic in nature can be postponed. Renegotiation of contracts is possible in order to get favorable net terms for your investors. I also find that using expense control software can ensure bills are paid in a timely manner while being advantageous to the property.

Property location is a key factor that is considered during acquisition. Area demographics, surrounding business profiles, income levels and inflation are all factored into the underwriting before an “acquire” decision is made. From an investor’s perspective, multifamily is asset-backed and its income is dynamic. Increasing rents and property values provide an inherent and understated hedge against inflation. The savvy investor knows that their investment is secure and, to a large extent, inflation hedged.

The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.


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