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Class B Multifamily: A Covetable, Resilient CRE Sector Worth Watching

By News Creatives Authors , in Real Estate , at August 10, 2021

Principal at Morgan Properties, a real estate investment and management company that’s the largest private multifamily owner in the country. 

The pandemic has reshaped the economy, our government and the way in which we conduct our everyday lives and business in profound ways. As I outlined in July 2020, the multifamily industry, in particular, learned important takeaways, ranging from the shift from urban to suburban and continued focus on amenities to the demand for more living space and new leasing tools to appeal to residents virtually.

As we reemerge from the pandemic, job growth, housing prices and inflation are on the rise, benefitting the multifamily industry — especially Class B, workforce housing — tremendously. Compared to hospitality, retail, office and even Class A multifamily, Class B outperforms and remains the most stable sector. Read on to learn more about its resiliency and why I predict it will lead as the most covetable investment into 2021 and beyond. 

The Unknown Created Uncertainty 

As the pandemic unfolded, no one had any idea how the crisis would impact our industry in the long term. For many owners, it was a full-court press to make sure communities were safe and able to assist residents who were impacted by job losses. One thing was for sure: We were all in it together and regardless of the circumstances, people needed a place to live. Thankfully, multifamily was not as materially impacted in large part due to its continued strong operating performance and a functional capital markets environment. Freddie Mac and Fannie Mae stepped up and showed their commitment to providing liquidity to the market by offering new loans. They required borrowers to escrow nine to 12 months of debt service but continued financing the market in an incredibly unstable and uncertain environment. 

This did not occur in the hotel, retail and office sectors, and those properties had few to no buyers as a result. The support from the agencies cannot be underestimated and is a major reason why the Class B multifamily market (in particular) fared better than any other sector, even early in the pandemic. 

Collections Slowed But Remained Strong 

Because of the ever-changing landscape of Covid-19, residents were unsure what the future would hold. The multifamily sector remained optimistic and proactive in assisting residents to overcome challenges they were faced with. Many owners and operators worked with residents to put them on payment plans, access and apply for local or federal rental assistance, seek unemployment and source new jobs as the market rebounded. What we found was we eventually collected similar dollars albeit over a longer pay period of 30 to 90 days. In total, collections fell off about 2-3% from historical levels, demonstrating the resiliency of the sector. 

Demand And Rent Increased For Class B

In the past 10 years, there has been a significant amount of new construction for urban, Class A multifamily projects in major cities across the country, all of which were being built and leased up against each other, creating supply challenges. Then Covid-19 hit. These luxury developments commanded rents unattainable to many, and when the economy took a turn, Class A urban properties immediately faced significant demand and rent declines.

In gateway markets like San Francisco and New York City, you could see close to 20% reductions in rent and over two-month concessions to entice tenants to either stay or move in during this challenging time. Occupancies dropped significantly as residents relocated to suburban, Class B communities, no longer needing to be close to work and looking to save money while gaining even more square footage. This shift away from the urban core began before Covid-19 and has significantly accelerated since.

While Class A communities generally collected 100% of their rental charges, they faced significant revenue challenges and their net operating income (NOI) declined. In contrast, Class B communities faced about 2-3% fall-off on collections but were buoyed by significant and continued demand throughout the pandemic. As a result, Class B saw significant rent increases throughout 2020, and I predict demand and subsequent rent growth will accelerate going forward. 

Key Takeaway: Be Opportunistic For Future Success 

Factors such as inflation, job growth among our core renter demographic and continued low interest rates tell us now is the time to invest in Class B multifamily, which thrived through another tumultuous cycle. As we look to the rest of 2021 and beyond, I anticipate demand will remain extremely strong for Class B multifamily, given the shift in renters who want more space and amenities for a reasonable price. Not to mention, housing prices continue to grow at unsustainable rates, keeping homeownership out of reach for many.

Class B communities provide an alternative: spacious and social communities at far more reasonable prices. Suburban, highly amenitized properties with competitive rental rates in hot areas such as the Sunbelt region will have the most appeal to investors. My advice is to follow population trends. Owners and managers who focus on acquiring assets in growing markets, capitalizing their deals intelligently and providing the best amenities and service at an affordable price will find success for many years to come.


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