Stuck in Neutral

Each year, Calvera attends the National Multifamily Housing Council (NMHC) annual conference. This conference serves as the informal kick-off to the year for apartment transactions. Normally, optimism prevails, and brokers come prepared with a bevy of potential acquisitions. Debt originators are usually equally optimistic as they try to procure financing for all the to-be-sold properties. Economists typically project significant market rent growth and key-in on a handful of high-growth markets. This year was not like the rest.

The conference tone was muted. Guest speakers seemed tired and frustrated. Uncertainty was a primary theme. Brokers brought small deal pipelines and shared that they were having increased conversations with lenders (future owners of distressed properties). The glimmer of optimism for 2025 was for a good second half. This contrasts with the cautious optimism from last year’s conference. The industry is stuck in neutral. But is the negative tone warranted?

There are many things to be happy about as real estate owners and investors. The economy remains strong. That’s always a positive for real estate. An economist from the University of Michigan noted that the labor market is in good shape, inflation is down to around 2.5%, and there’s no pressure for the Fed to cut interest rates (the Fed paused rate cuts last week). New business formation remains above pre-pandemic levels showing further economic strength. We in the real estate industry should cheer on a strong economy with low unemployment, and it is worth celebrating.

More positives for the apartment market include historically strong apartment demand in 2024. The upside surprise in demand was said to be due to unattainable single-family home prices and new household formations. Johnny is moving out of his parents’ basement and finding his own place to live. For one major apartment owner (and we’re seeing this at Calvera, too), renewal retention rates are high. Tenants who are moving out of apartment units into home ownership is low and rent-to-income ratios are high. Again, good news for the apartment market.

Industry economists and big owners love Dallas-Fort Worth (DFW). According to Yardi, it’s the “center of the apartment universe.” DFW is high on many investors’ lists because of its continued growth, it has deals in every multi-housing niche, and it’s highly liquid. The DFW market is a big sandbox that everyone can play in. No doubt that DFW still needs to absorb (i.e., lease) many newly built apartment units, but it is on everyone’s short-term and long-term lists. Calvera’s last two apartment acquisitions were in Fort Worth (2023) and Dallas (2024). Other markets that had upside surprise in demand in 2024 were San Jose and San Francisco. Perhaps a Bay Area comeback is in the making?

There was an interesting discussion about urban markets. Those areas were hit hardest during the pandemic due to the density of living conditions, work-from-home accommodations, and higher rental rates. Industry economists see tremendous value in many urban areas as people come back to the office and cities reinvent themselves. These areas have even less future supply in the pipeline and many deals can be had significantly below replacement cost. However, places like downtown Nashville with considerable supply may be in for a longer recovery as it will be difficult for many of the new properties to achieve their underwritten rents. In general, though, urban areas have not received much of the new supply surge the past two years and may see positive rent growth faster than some suburban locations.

Another key topic was the noticeable absence of institutional capital in the market. This investor tends to wait for the “all clear” notice to be plastered on every billboard in town. There’s a herd mentality, and the herd are still napping. Firms that traditionally relied on this capital are now soliciting family offices and high-net-worth individuals. We know from reaching out to those same groups that they’re more popular than ever. Fundraising is a challenge for all but the largest owners/investors.

The factors playing into the negative mood are the current level of interest rates, high insurance premiums, the potential impact of tariffs and deportations, political and regulatory issues, and the lack of deal flow. These are not necessarily controllable factors. But the real issue is seller expectations. Why do seller expectations remain high? There are two main reasons: 1) lenders haven’t forced distressed borrowers to sell and 2) the entire market believes better days are coming…soon. Those better days will be due to either a drop in interest rates (I don’t believe this is happening anytime soon) or, more likely, a return to above-average rent growth.

Growth is needed. We can see the statistics and know that new apartment supply is falling off a cliff in late 2025 and into 2026 and 2027. As long as demand remains robust, rents will accelerate. Once rents accelerate, business plans to renovate units, improve on poor management, and buy a lower yielding deal will make sense once again. The hard part is waiting, and that’s impacting the industry tone.