2023 multifamily industry outlook

As 2023 begins with persistent recession fears, rent projections for the year ahead continue to be downgraded.

Yardi Matrix revised its 2023 rent growth outlook from 3.7% to 3.5% in early December. commercial real estate services firm CBRE expects rent growth to hit 4% — a solid number in many years. However, that’s a noticeable decline from the double-digit rent growth posted in 2021 and 2022.

Traditionally, during recessions and periods of slowing or even declining rent growth, apartment operators focus on keeping current residents in place. While retention should remain a priority in 2023, managers will also focus on controlling expenses as revenue projections tighten. But trimming those costs could prove to be difficult as inflation lingers.

“We're all looking ahead with the economy,” said Andy Hoff, senior vice president of facilities operations at King of Prussia, Pennsylvania–based Morgan Properties. “I think most multifamily owners and a lot of other businesses have an eye on that.”

Slowing growth

After seeing the market cool in the last few months of 2022, property operators are preparing for a more challenging year in 2023. 

“Trying to read the tea leaves, and it's not easy right now, we believe that there will be a slowdown as far as the meteoric rise in rents that we've seen over the last few years,” said Dave Brackett, senior vice president of property operations for Indianapolis-based developer, manager and owner Milhaus. “So right now, we're preparing for lower rent growth.”

Occupancies are also projected to fall next year. CBRE predicts they’ll fall but still come in above their 20-year average of 95%. Maria Banks, president and CEO of AMLI Management Co., the operating arm of Atlanta-based AMLI Residential, projects her company’s occupancies will be lower than the nearly 98% it posted in 2022 as new supply hits the market.

“We’re definitely more tempered in terms of revenue growth and net operating income projections, but still looking pretty good,” Banks said.

Some operators are in tougher positions than others. Brackett feels pretty confident in Milhaus’s Midwestern markets, which didn’t see rents rise as fast as its Sun Belt metros. However, owners in tech hubs like the Bay Area and Austin, which have seen layoffs rise, could get hit harder. 

“If you lose a whole lot of high-paying jobs in the economy, that reverberates everywhere,” said Matt Ferrari, co-chief investment officer and head of acquisitions and East Coast asset management for Los Angeles–based TruAmerica Multifamily.

Expense control

When revenue increases slow, many operators will work to limit the amount of money they’re spending. That, and inflation, are big reasons why expense control is a priority for many executives in 2023.

“We're just going to be really focused on trying to control our expenses because inflation has taken a toll on everybody,” Brackett said. “Personnel has gone up and I don't see that slowing down a whole lot. So we're going to have to look at creative ways to cut back a little bit.”

Many of the public apartment REITs have been focused on expense management and spreading resources across multiple properties. For instance, Arlington, Virginia-based REIT piloted a program with no staffers on site at its 238-unit Kanso Twinbrook in Rockville, Maryland. Prospects can use self or virtual tours to see apartments and residents can schedule maintenance requests. The REIT provides emergency response as needed.

Alexander Goldfarb, managing director and senior research analyst of REITs at investment bank and financial services company Piper Sandler & Co., said the apartment REITs have shown “incredible expense discipline over the years.”

“They aren’t immune from some forms of inflation, like insurance costs increasing,” he said.

Goldfarb said insurance companies will face more challenges in a difficult market for stocks and bonds. That could make it harder for them to offer acceptable rates to property operators. “They're not going to be as competitive because they need to make money,” he said.

So as much as apartment operators want to trim costs, they will still have to deal with utilities and insurance increases creating “a huge pressure point,” Goldfarb said.

“What they're facing now with inflation costs on labor, utilities, insurance and real estate taxes is beyond their control,” Goldfarb said.

Retention as a priority

In a slowing growth environment, companies want more than ever to keep the residents they have. 

Retention will be a focus for AMLI, though Banks said it has always been a priority with the company striving to keep renewals at 50% to 55%.

“The past couple of years have gotten a little higher during the pandemic,” Banks said. “But certainly resident retention is a part of our strategy. We looked at resident events and created resident groups in our portal to try to make people feel at home. Obviously, customer service is a significant focus for us as well.”

Milhaus relies on a social connection portal called Cobu to allow residents to communicate. In the process, it hopes they make connections that increase satisfaction and lead to renewals. 

“It's kind of like having their own Facebook page just for the property,” Brackett said. “It's really designed for apartment dwellers. The residents really interact well with each other on there.”

If managers can use technology to reduce costs and enhance resident retention, they could soften the blow of flatter rental rates. If not, operators could be looking at a long year of lingering economic concerns.

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Could 2023 be the year when things finally slow down?

Apartment development in 2022 proved to be surprisingly resilient despite construction slowdowns in other real estate sectors in the second half of the year. Multifamily builders started an annualized rate of 599,000 new units in Nov. 2022 — hitting a high not seen since the mid 1970s during the year — after averaging 350,000 units between 2015 and 2022. 

“Multifamily starts have just been stubbornly high,” said Ryan Davis, CEO of Witten Advisors, a Dallas-based firm that provides apartment companies with advisory services. “We've already seen a pullback on the single-family side. But on the apartment side, starts have continued to head higher.”

Davis thinks that trend could reverse in 2023.

He projects that starts will fall to 300,000 units in 2023 and then taper down to 250,000 in 2024 and 2025. “If you don't have a deal already in process, or you just have some land and you don't have the entitlements, then you're just going to press pause,” Davis said. 

Issues in the capital markets, caused by interest rate increases, are the main culprit behind the slowdown for both market-rate and affordable developers. 

Underwriting problems persist

Davis is far from the only person predicting a slowdown this year. On his fourth-quarter earnings call, Stuart Miller, executive chairman of Miami-based public homebuilder Lennar Corp., said he expects the production of multifamily and single-family homes to drop between 25% and 33% in 2023. In real terms, he said the 1.5 million homes built in the U.S. each year over the last couple of years could fall to 1 million in 2023.

“The multifamily capital markets are very frozen up right now,” Miller said on the call. “I think that the number of new communities coming out of the ground for multifamily and even the single-family for-rent buyers are kind of seized up because of the capital markets considerations.”

Milhaus, an Indianapolis-based developer, owner and operator that specializes in attainable apartments, is putting in a lot more effort to secure debt and equity, according to Dave Brackett, senior vice president of property operations at the company.

“We're making sure we've got all our ducks in a row for the construction we're going to be starting next year,” Brackett said. 

But not everyone will have the same struggles getting money. The public REITs, many of which are sitting on cash and have low leverage, don't need to rely on individual loans for each development. Instead, they have revolving lines of credit and other tools to help fund each development, if it makes sense.

Affordable challenges

Securing financing isn’t any easier for affordable developers. After the 2017 passage of the Tax Cuts and Jobs Act devalued and lowered the demand for the Low Income Housing Tax Credit, affordable housing developers have faced fewer resources and higher construction prices, according to Matthew A. Rieger, president and CEO of Coconut Grove, Florida–based Housing Trust Group. But the decreasing price of the federal tax credit “was somewhat smoothed over by the availability of cheap debt due to historically low-interest rates,” Rieger said. 

Now with interest rates making it harder to underwrite deals, combined with continued high construction costs and rising property and general liability insurance, Rieger said affordable developers could see a “bloodbath” in 2023. “We are facing a perfect storm,” he said.

Other affordable developers are seeing similar problems, even if they aren’t expecting a bloodbath. “It has been tougher to underwrite on the affordable side of the business as we’re looking to close on transactions,” said J.B. Curry, president of Indianapolis-based TWG Development. “It has affected the capital stack slightly with our construction loans and the sizing.

JRK Holdings hasn’t been shy about buying apartments. Since its founding in 1991, the firm grew to be a regular on the National Multifamily Housing Council’s list of top owners.

But in late 2021, CEO Bobby Lee noticed something — the Los Angeles–based apartment owner was having a harder time making new acquisitions pencil out. 

“We were frustrated with some of the pricing we saw in the markets towards” Lee said in late 2022.

The Federal Reserve’s interest rate hikes throughout 2022 have shifted the ground underneath apartment owners. The increases had a dual impact on both buyers and sellers, slowing the transaction market to a crawl. 

But now, a small group of owners is growing more motivated to sell as they face refinancing challenges and other risks. That could open the door for investors with access to cash and more favorable financing.

JRK was one of these inventors with the dry powder to make deals at the end of last year. After being outbid for properties earlier in 2022, the company secured two assets at discounts to what they would have cost the year before.

Lee is hopeful these acquisitions are just the tip of the iceberg, with more — possibly $1 billion — coming in 2023. He isn’t alone. With $249 billion of debt maturing across the industry in 2023 and 2024, according to Cushman & Wakefield many investors expect to grab assets at the bottom of the market from motivated sellers who will have difficulty refinancing their properties. 

Forced to sell?

Apartment owners that financed their properties with floating-rate debt are facing pressure to sell as the loans are coming due in the near future, Lee said.

“I certainly think anybody who has floating-rate debt, whether it's a construction loan or agency debt, they’re going to face problems,” Lee said. “Their interest rate is going from 2.5% to 3% to 6.5% or 7%.”

If property values decline, owners who bought in the past year or so could see their equity investment wiped out. Some deep-pocketed owners may be able to put in extra cash and maybe bring in partners. 

“A lot of that business still does have extensions available to it,” said Dan Brendes, senior vice president and head of GSE Lending at New York City–based commercial real estate services firm Berkadia. “Some of that will bring in new capital, potentially.”

But others won’t be so lucky. “Some of it will be an opportunity for buyers to come into a distressed situation,” Brendes said.

The difficulties with refinancing loans could hit any number of property owners. Lee points to merchant builders that don’t want to chip in equity to refinance their construction loans with permanent debt.

Some of the debt fund loans that relied on significant rent growth — possibly through ambitious renovations — and were underwritten at significantly lower rates could also face issues, according to Brendes.

“It depends on when they did the deal and what kind of growth they had,” Brendes said. “But if they got into it late with fairly aggressive assumptions, that could be an opportunity for distressed buyers.”

A buyer’s market

As more owners face floating-rate debt maturities, many investors will see an opportunity to jump back into the market.

Even though JRK didn’t buy a lot of assets in 2022, the firm stayed busy. It focused on raising a $1 billion fund with a lower preferred return than its previous vehicle to “get ready for opportunities,” according to Lee. The CEO suspects that the deals he finds during 2022 won’t offer strong immediate returns.

“We felt like we are going to see better opportunities over the next three or four years,” Lee said. “We figured there will be some tightening of credit and rising interest rates, and we want to get ready for it.”

Lee isn’t alone. Joe Stampone, managing partner of investments with New York City–based owner Atlas Real Estate Partners, said the company’s focus is preparing to take advantage of “modest” distressed opportunities, which he expects to occur in the second half of 2023.

“It’s really about establishing strong capital partners and having discretionary capital at our disposal to go after opportunities aggressively when and if they do arise,” Stampone said. “We don’t expect to see massive distress, but we think there will be an opportunity to pick up high-quality properties at an attractive basis.”

REITs return

As private buyers relying on high leverage disappear from the market, the public REITs could also see an opportunity to become more active. Many of these companies have stockpiled cash and lined up revolving credit facilities to give them the capital to make acquisitions.

“I think apartment REITs could be opportunistic buyers because they have lower leverage and the ability to access capital at better terms than private players,” said Haendel St. Juste, managing director of REITs for investment bank Mizuho Securities.

After strengthening their balance sheets after the global financial crisis, the public apartment REITs are in a good position if they decide to buy. But prices have not come down enough at this point.

But if more owners face financial pressure in 2023, it may suddenly become time to buy for many investors who largely sat on the sidelines in 2022.

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In times of turmoil, apartment owners have traditionally turned to the government agencies for financing. 

With interest rates continuing to rise and a recession potentially on the horizon, 2023 is already looking like a tumultuous year. So it's no surprise that Fannie Mae and Freddie Mac will be popular options for investors in the year ahead.

“I think the agencies will pick up a bigger portion of the pie,” said Dan Brendes, senior vice president and head of government-sponsored enterprise lending at New York City–based commercial real estate services firm Berkadia.

Even as the government agencies gear up to provide more financing this year, other debt sources won’t disappear from the market. But getting loans won’t be easy this year. Many banks are dealing with issues on loans they’ve already made and will scrutinize new originations very closely.

Agency lending caps

In November, the Federal Housing Finance Agency established lending caps of $75 billion each for Fannie Mae and Freddie Mac, giving them a total of $150 billion for 2023. Last year, the government-sponsored enterprises had $78 billion each to allocate for multifamily loans. Fannie Mae didn’t hit this number, providing $69 billion in financing last year.

Despite the lower caps, the sector doesn’t seem to be concerned about the agencies pulling back support. “The agencies will continue to dominate the market, without a doubt,” said Thomas Carroll, founder and CEO of Charleston, South Carolina–based apartment owner Ballast Rock.

In announcing the caps, FHFA noted that it would continue to monitor the multifamily mortgage market and will increase the multifamily caps if needed. “I think the $75 billion each is probably a fine number there,” said Kyle Draeger, senior managing director of multifamily debt and structured finance at CBRE Capital Markets. “They’re still going to be actively lending to the extent people want money.”

FHFA will require that 50% of the agencies’ lending be directed toward affordable housing. These loans help the agencies fulfill their mission of providing affordable housing. Loans that finance energy or water efficiency improvements with units at or below 80% of AMI will be classified as mission-driven. In 2022, these loans needed to be affordable to people making 60% of AMI to earn that designation.

“Lenders are much more aggressive if you come to them with an affordable deal or a deal with an affordable component right now, especially as Freddie and Fannie are being incentivized to lend on those,” said Jon Siegel, co-founder and chief investment officer at Bethesda, Maryland–based apartment owner RailField Partners and a former Fannie Mae executive. 

To encourage financing of loans on properties with rent or income restrictions affordable at levels that meet market needs, FHFA is also creating a new category focused on preserving affordability in workforce housing. Under the provision, apartment owners can decide to restrict a certain amount of units at a percentage of area median income to qualify for a mission-driven loan.

A tighter environment for other debt sources

Outside of Fannie and Freddie, there are a lot of questions about the availability of debt from other major multifamily lenders. “If you don't have long-standing relationships at this point in this market volatility, you will not get access to financing in the same way outside of the agencies,” Carroll said. 

The stronger debt funds are still in the market but are lending at much higher rates. “They’re lending at 8%,” Draeger said. “Does somebody want that money or not? It’s also a challenge.”

In the first six months of 2022, the insurance companies had hit the limits on what they would lend for apartments. “Life insurance companies did a lot of business in the first half of the year,” Draeger said. “So they didn’t really need to do anything in the latter half of the year to hit their budgets.”

Now, as they have money to allocate to multifamily in 2023, the hope is that they'll be lending more aggressively if there are borrowers. “They're more than happy to make loans,” Draeger said. “Demand is the bigger issue as borrowers are reluctant to lock in long-term financing at rates in the mid 5% to 6% range.”

Many large national and even regional banks have also moved away from the market, especially on the construction side. For them, the problem is the real estate loans already on their books. 

“There are larger banks that potentially have exposure in other asset classes that are saying, ‘We're just not lending for new construction right now,’” said Brian Oates, executive managing director of development at Atlanta-based apartment developer RangeWater Real Estate. 

The lending requirements have also tightened up with regional banks, according to Oates. With the sales market slowing, banks are not getting construction loans off their books as quickly as they would like. 

“Some of the lenders we deal with are saying, ‘We enjoy working with you guys, but we need to replace one of these construction loans,’” Oates said. “‘Since we’re holding on to deals a little longer, there’s not as much capital to put back into new construction.’”

As banks deal with loans already on their books, they’re looking at new originations with a lot more scrutiny.

“We've definitely seen a change in the lending market in terms of much more stringent examinations of underwriting to verify that you're going to hit those debt service coverage ratios,” Carroll said. “Some lenders have lent money to buyers that have not hit their targets and that will not hit their targets. And as a result, somebody's going to take a loss.”

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Multifamily design is undergoing a readjustment as working and living trends evolve. With the new year just beginning, it’s as important as ever to keep an eye on what renters are looking for and how to account for it in new and existing properties alike, according to industry experts.

The most important of these renter preferences by far is the rise of remote work — almost universally cited by industry experts as a major design consideration moving into the new year. While the public health situation is no longer what it was in 2020 or 2021, working from home or hybrid work schedules have become permanent for many who once commuted to an office five days a week.

“I think it’s changed forever,” Gary McLuskey, managing director of global design at Charleston, South Carolina-based multifamily giant Greystar, told Multifamily Dive. “The pandemic accelerated something that was happening very slowly over time.”

A variety of options

Working from home means that apartment residents are spending more time on property than ever before — and industry pros agree that demand is expected to remain high for places to work on site. Designers have a variety of different ideas about what that space should look like and how it should be implemented, sometimes even for the same building.

In his work, Jared Bradley, leader of Nashville, Tennessee-based architecture firm The Bradley Projects, has stepped away from the more traditional business center and taken the approach of carving out small spaces across the building footprint that residents can use as functional places to “step away, have a private moment by themselves, work on a computer or have a phone call.” This includes both amenity spaces and niches worked into individual units. 

“We're carving out spaces that can be designed into a small work space, so you actually feel like you're in a small office,” Bradley said. “Think of it almost like a different version of a den, a one-plus unit.” 

The Bradley Projects is also exploring built-in office space in private units, outfitted with modular-style furnishing packages.

Social settings

In more conventional multifamily, Matt Bartner, managing principal at Collingswood, New Jersey-based Thriven Design, told Multifamily Dive that two-bedroom units and apartments with dens have become more popular as work spaces. 

However, at the same time, he has noticed a shift away from amenities focused on the individual and toward activities done as a group, whether work, study or recreation. This is especially apparent in the firm’s work in student housing, where group study rooms have become more desirable.

Bartner believes this is a direct response to the isolation students felt during distanced learning. “If it’s the germaphobes versus the extroverts, the extroverts seem to be winning,” he said. 

Greystar offers a middle-of-the-road approach in its multifamily buildings, creating coworking spaces with large collaboration tables as well as smaller, more isolated nooks where residents can work alone or take calls. McLuskey noted that these booths are particularly popular, but emphasizes the importance of having a variety of space for residents to choose from. 

“If you're on a call, and you've got 10 people around a big table that are all talking on calls, it's not going to work,” McLuskey said. “We need to integrate these small call booths into the workspace now, as well as a range of working types.”

Most signs point to 2023 being a much slower year than 2022 for apartment starts. In addition to persistent commentary from development and lending executives saying that financing isn’t there for new construction, multifamily permits fell 16.4% in November, according to the U.S. Department of Housing and Urban Development and the U.S. Census Bureau. Although they’re still at a robust annualized 561,000 pace, it is the lowest reading since September 2021.

“We think 2023 is going to slow down,” said Brian Oates, executive managing director of development at Atlanta-based apartment developer RangeWater Real Estate. 

But some developers might see a benefit. Fewer starts could stall some of the astronomical pandemic-era price increases they were experiencing by limiting competition for materials, labor and, eventually, land. Inflation, which has been an issue, is starting to level off.

In fact, construction input prices tumbled 2.7% in December from the previous month, the largest monthly drop since April 2020, according to an Associated Builders and Contractors (ABC) analysis. Despite that monthly drop, overall construction prices remain 7.9% higher than a year ago, according to the report.

But costs should be moderating soon, many experts say. Here are three reasons why building new units may be more affordable in 2023

1. Materials costs should stabilize

Construction costs have risen sharply over the last couple of years. On his company’s third-quarter earnings call, Houston-based Camden Property Trust CEO Ric Campo said his REIT was seeing them increase 1% per month — 12% per year. 

“We think that number is going to slow or go negative when we start seeing starts fall because most merchant builders are telling me today that their starts are going to be down substantially in 2023 and 2024, given [the] cost of capital and the lack of bank financing,” Campo said on the call.

Right now, there still are a lot of apartments — 932,000 — under construction. In fact, it's been nearly 50 years — December 1973 — since more units were being built. But some of that activity will soon burn off, potentially freeing up contractors. RealPage predicts that 575,591 new apartment units — the highest on record — will hit the market over the course of 2023.

With that many properties being developed, developers aren’t seeing a lot of across-the-board cost declines. “Prices haven’t gone down dramatically,” said Adam David Lynd, president and CEO of Shavano Park, Texas–based The Lynd Group. “That hasn’t happened yet.

But the situation has improved in some areas, especially for commodities affected by supply chain issues over the past couple of years. In mid-December, lumber dropped to $370.40 per thousand board feet — its lowest level since June 2020. 

“It has come way down from the supply-chain-driven peaks of last year and into this year,” said Ryan Davis, CEO of Witten Advisors, a Dallas-based firm that provides apartment companies with advisory services.

In addition to falling prices for some commodities, materials are generally more readily available. “You’re not seeing the supply chain issues that we experienced in 2020. [But] I wouldn’t say It’s smooth sailing by any stretch of the imagination,” said Lissette Calderon, CEO of Miami-based Neology Life Development Group.

Developers and builders of apartments aren’t out of the woods yet, according to Anirban Basu, ABC chief economist. “Though there is evidence of improving supply chain functioning and moderation in input prices, contractors should not be tempted into complacency,” he said.

Some items, like electrical transformers, can be especially challenging to acquire. “Our electrical equipment — transformers and switch gears — have 12-month lead times in several of our markets,” Oates said.

2. A single-family slowdown will ease some labor concerns

Although there are historically high levels of apartments under construction, there has been a pronounced slowdown on the single-family side, with the pace of construction down 32% since mortgage rates began to rise last February, according to the National Association of Home Builders.

That’s making materials like lumber and labor more available for apartment construction. “Seeing the single-family projections coming to a much slower pace is a big indicator with regard to the availability of the groups we can partner with on our projects,” said J.B. Curry, president of Indianapolis-based TWG Development.

Developers of wood-framed, garden-style projects are seeing a direct benefit, according to Davis. “There's a considerable overlap with the single-family side in terms of just the knowledge to construct those properties,” Davis said.

But on the more complex projects, like high rises, prices haven’t dropped across the board. Contractors are currently maintaining their longest backlog since 2019, according to ABC’s construction backlog indicator, Basu said.

Oates agreed. “Until that backlog gets eaten up, I don't think we're going to see much movement from a labor perspective or from a material cost perspective,” he said.

3. Land costs should eventually fall

If the economy falls into a recession as many predict, land prices probably won’t fall immediately unless a particular seller is under financial stress or is highly leveraged. “Land guys are always the last ones to capitulate,” Davis said. “Right now, they’re holding steady.”

Though there have been a few exceptions, the situation is no different now, according to Davis. “For the most part, they’re going to stick to their prices,” he said. “But it's going to be more favorable [for developers] in terms of there no longer being these big escalations in prices.”

In a fluid market, it’s hard to peg a price for land, according to Campo. “There is definitely some sort of movement on land sellers in terms of what the price should be in the future,” he said. 

But land sellers will probably get more desperate if developers who committed to buy their properties back out of deals. 

“Most of my merchant builder friends, if they're not hard on a contract and have significant investments, they've dropped their contracts, and they know those land sellers are all getting dropped across the country,” Campo said. “And it will be interesting to see what happens in the first quarter.”

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