Also, the share of capital flowing into secondary and tertiary markets has widened considerably.
Deal flow for the multifamily asset class has officially hit record levels, as increased competition for assets is pushing investors into smaller markets.
New research from Marcus & Millichap notes a “historic level of trading activity” in 2021 after a 22% contraction the year before. Deal velocity for apartments at $1 million and above rocketed up 50% in 2021, while rents grew by double digits.
Deal flow was also influenced by investor concerns over possible changes to the capital gains tax, according to Marcus & Millichap analysts. And “abundant investor demand has translated into higher sales prices as a result,” they note. “The U.S. average price per unit rose nearly 9 percent in 2021 to over $180,000. Cap rates have compressed as a result, with the national mean dropping to 5 percent.”
Initial yields for trophy assets in desirable markets traded in the mid-2% range last year, helped along by historically low interest rates. Rates are expected to continue rising this year, however, which will temper yields: “Paired with competition from other parties, this trend will likely drive investors to widen criteria this year, bolstered by a generally recovered economy,” the report predicts.
That means investors are likely to look at more markets than before. Over the past two decades, the share of capital flowing into secondary and tertiary markets has widened from 38 percent of trades in 2000 to 53 percent in 2019 and 57 percent in 2021.
“Beyond lower entry costs and higher yields for comparable assets, properties in non-primary markets also benefit from favorable demographics,” the report notes. “Migration out of dense city cores accelerated over the past two years and will continue moving forward due to the aging of the population. Improving apartment operations have also increased institutional investor demand, often targeting core properties in high-growth markets. After pausing in 2020, the number of trades priced over $20 million completed last year was on par with 2019. Competition from larger investors will push some smaller buyers to less active asset classes and locations.”
On the supply side, Moody’s predicts a “mild uptick” in multifamily deliveries this year, but notes that supply chain and labor issues will continue to derail projects. The firm’s current forecast calls for vacancies to remain flat.
“At this point in the cycle, demand outstrips supply in most markets, and short lease terms and non-sophisticated tenants make a strong case for the asset class being an inflation hedge,” Moody’s analysts note in a recent report. “But, if our economic forecasts come to pass about Treasuries going up by approximately 100 basis points over the next two years, and that translates to exit cap rates, the need for NOI growth on tightly priced assets gets amplified.”
