Economists Blame Sales, Construction Pause on More Than Interest Rates

NMHC’s Walter, JLL Capital Markets’ Rice outline cost concerns slowing multifamily activity during NAREE conference. But Rice predicts a sales activity uptick in the second half of 2023.

Annie Rice. Image by Suzann Silverman

Both sales and construction of apartment properties have slowed as rising interest rates have impacted lending and other aspects of real estate business, economists reported during the National Association of Real Estate Editors‘ annual conference. The pause on the supply side is particularly noteworthy, since the market continues to underserve demand to a significant extent, particularly for market-rate or more affordable housing. As of 2021, the market was short 600,000 units, according to Caitlin Sugrue Walter, vice president of research for the National Multifamily Housing Council.

The higher interest rates are causing projects in the pipeline to pause as they cease to pencil, Walter noted. She cited quarterly survey findings of increased delays, from under 20 percent of respondents in the first half of 2022 up to 41 percent in September 2022, 39 percent in December 2022 and 42 percent in March 2023. Meanwhile, banks are running up against allocation limitations during this higher-risk market.

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But other factors are also coming into play, exacerbating the situation. Developers are avoiding markets where regulations present limitations and increased costs. According to a recent NMHC survey, 47.9 percent of respondents are avoiding markets with inclusionary zoning, which necessitates increased market-rate rents to uncompetitive levels. Rent control also represents a complication, with 87.5 percent avoiding markets where it’s a factor. And 74.5 percent have been deterred by NIMBYism, which adds 4.5 percent to development costs and delays completions by 7.4 months on average, usually after permitting and before a project is started.

Delays may also be caused, once again, by a slowdown in supply deliveries, as the ports of Los Angeles and Long Beach deal with labor issues.

Ongoing struggles

Caitlin Sugrue Walter. Image by Suzann Silverman

In addition, dramatically rising insurance costs have impacted both construction and investment, Walter noted, contributing to the recent drop in apartment returns into negative territory as they have cut into the bottom line and forced both greater passthrough to residents and increased deductibles as property owners strive to balance risk and affordability. Survey findings that NMHC released on June 5 included 61 percent of respondents reporting increasing deductibles, 57 percent reporting new policy limitations from their carriers, and 34 percent experiencing limited or reduced coverage.

Multifamily sales slowed by 71 percent in the first quarter, according to JLL Capital Markets Managing Director Annie Rice, with investors underwriting zero to 5 percent rent growth. She thinks there could be more activity in the second half of the year, however, with institutions primary among sellers and private buyers playing a greater role.

Rice sees average cap rates dropping for both core and value-add properties as the capital markets start pricing risk appropriately, and she expects the government-sponsored enterprises to continue to comprise a much larger share of liquidity, having committed $150 billion in loan purchase caps in 2023.

With just over $1 trillion in maturities in the coming years, a lot of it floating-rate debt and some with 100 percent loan-to-value, there could be distress to come, she added.

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