- In 2005-2007, luxury student housing was all the rage in commercial real estate. The story was compelling. College students from middle- and upper-income families would not be satisfied in the cinder-block dorms of their parents’ era. They would expect modern and even luxurious accommodations, consistent with their upbringing, and their parents would be only too eager to pay. Projects were located on scarce lots close to campus. A 12-month lease assured that rent would be paid during the summer months. Units were inspected monthly, and the parents were billed for any damages. Yields were higher than other rental housing sectors at the time. Student housing was very popular among fractional owners in a 1031 exchange.
Student housing proved to be so popular in fact that developers everywhere poured into the market. So many projects were built so quickly that there was a glut almost immediately. Vacancies rose and some projects failed outright. Student housing became over-saturated for at least a decade.
- I once met with a potential client who had inherited a portfolio of budget motels. He planned to sell them all as soon as possible. When I asked why, he said that the properties in poor locations had high vacancies, and were losing money. The good locations attracted too much competition, which ate into his margins, and those motels lost money as well. Since he recently inherited the properties, his cost basis was stepped up, and he was cashing out.
- I recently had a client interested in a Delaware Statutory Trust. He asked me to look into a multi-family offering in Las Vegas, since the city was part of the sunbelt experiencing rapid growth.
I told my client that this was the fourth Las Vegas multi-family DST I had seen in the past month. Also, my son and his family live in Las Vegas, and I am there frequently to see my grandkids. When I visit, I am always astonished at the scale of the new residential housing development. In some areas, new development is literally as far as the eye can see. Once demand slows down (as it always does), there was going to be an enormous over-supply. We passed on the DST.
Investors often focus on the demand side of the equation. People have to live somewhere. Self-storage is a growing market. Everyone is moving to the sunbelt. E-warehouses are the wave of the future.
What is often overlooked in real estate investment is the supply side. Hot markets attract hot money. Investors who wouldn’t touch property in 2010, now insist that real estate must be a part of every portfolio. Funds are currently pouring tens of billions into commercial properties. Is it because they are bullish, or because right now it is easy to raise money for real estate? Funds are in the securities business. They are chasing the money, just as they are with renewable energy, or any other popular sector. Real estate is an efficient market. There may be a construction lag, but especially in times of cheap financing, there is a lot of retail and institutional money circling the globe, looking for yield. Supply is easy to evaluate. I get most of my information from the Wall Street Journal.
- Multi-family projects and self-storage properties are currently in great demand, selling at a 3+% cap rate. However, new apartment and self-storage construction is at a 40-year high. Will all that new supply help, or hurt, rental elasticity?
- Build to lease single family home building is also booming, as families currently priced out of owning a home are presumed to become a permanent class of renters. As such, Blackstone alone has poured tens of billions of dollars into single family rental housing, in additional to the massive investments of other major funds. Bullish for housing? Or bearish?
- It should be noted that institutional investors do not behave like individual investors. When an asset class goes south, institutions cannot afford to sit on losses for years, hoping for the market to come back. If for no other reason, the opportunity cost is too high. They move on. They dump.
- Assisted and senior living properties are also quite popular at the moment, since baby boomers are aging and presumed to represent a continuing high demand.
- Senior projects are highly dependent on the health of the overall housing market. Most seniors have to sell their current residence to afford the buy-in of a senior facility. If the housing market is strong, the senior housing market prospers. If the overall housing market is weak, seniors cannot sell their homes for enough money to afford the buy-in. They either continue to stay in their home, or move in with a relative.
- The senior market suffered a severe downturn in the 2007-2010 recession. I was personally involved in a number of restructurings and distressed sales in Tucson, Arizona, a traditionally attractive senior market.
- The senior housing market is not recession-proof. Quite the contrary.
- Many investors, searching for an exchange property with the 45-day identification period, are more frequently considering properties in markets far from home. They are often forced to evaluate these properties in a vacuum, without an intuitive sense of competition or trends in the local market.
Rising interest rates, combined with unsustainably high asset prices and the supply overhang of pending new properties, present an investment prospect much different, and much less certain, than the outright bullish sentiment presented by most industry participants.