Where is CRE Going? Multifamily Might Provide Clues

Trends in the multifamily sector might provide insight into other commercial real estate sectors.

Martin CaverlyBy Marty Caverly, Chief Investment Officer of the Resource Innovative Office REIT and Senior Vice President of Resource Real Estate

The past several years have presented a good opportunity to invest in apartments in the United States. Multifamily has been the clear leader in the institutional investing world, with rents rising strongly in most markets across the country. As noted in many real estate publications, this is especially true in the San Francisco Bay area, which has the highest asking rent in the country, according to recent studies. The median rent for a one-bedroom apartment is offered for $3,500 per month ― a 12.9 percent increase from the prior year and, surprisingly, more than the median monthly rent in leading gateway markets such as New York City ($3,100), Boston ($2,250), San Jose ($2,230) and Washington, D.C. ($2,150).*

There are many reasons for the relatively good health of multifamily across all markets, including declining ownership rates, desire for a more urban lifestyle by young and old generations alike, and an extended period during the 1990s and 2000s of anemic development that did not even replace obsolete stock. Millennials have presented some of the key factors for the surge in apartments, including their desire to postpone home ownership and their push for a more urban, walkable lifestyle. As the poster child for the young, urban, tech-centric city, it is not surprising that San Francisco is leading the way in rent growth and returns.

If one cohort can be so impactful on one type of commercial real estate, could it also influence others? Might there be other “Millennial” strategies on which investors can focus to capture outsized returns? How office space is being utilized is changing almost as dramatically as the apartment rents in San Francisco. Technology companies are leading the way here, but the concept is now being copied by most companies up and down the Fortune 500 roster.

The biggest change is that today’s employee ― dominated by the Millennial cohort (estimated to be over 85 million strong by 2025) ― desires a more “open-plan” work environment, with more natural light and brighter hallways, including areas to work in a group or alone (and the ability to choose between the two). The days of trudging to the same gloomy cubicle every day or being locked in an office are over. Offices must be designed to be more collaborative spaces that help employees and, subsequently, their companies innovate.

This innovation is increasingly important in an economy that is rapidly disrupted by change. All industries are subject to these forces, even the seemingly simplistic ones (for example, the taxi industry upended by Uber, hotels impacted by Airbnb, the iPhone changing the communication and music businesses and Netflix taking a swipe at the television networks).

In order to compete, more companies are moving from the suburbs to the urban centers, and into buildings that provide the open, collaborative space described above. This space is more attractive to employees and, therefore, can pay real dividends in higher retention rates and serve as a powerful recruiting tool. A properly designed space also facilitates interaction and, ultimately, increases employee competitiveness. We call this type of space “innovative office” space. It is not just a trend, but rather the logical evolution of office in an ever-changing economic environment. It is our belief that those investors who understand this trend and its impact on the office environment will enjoy outsized returns relative to other investors in office space.

* Source: Zumper National Rent Report: August 2015