Slow and Steady Wins the Race: The Case for Multifamily in Cincinnati and Detroit
Investors favor multifamily markets with brisk population growth and meaningful barriers to entry. But can a case be made in turbulent times for slow-growth Midwest cities characterized by weak entry barriers?
Midwest metro areas with relatively healthy demographic growth — Columbus, Indianapolis and Kansas City come to mind — have posted constructive performance trends during the pandemic recession so far, particularly with respect to rent.
Among the 10 largest Midwest markets, Columbus recorded the fastest rent growth over the past three years (18.2 percent, according to Yardi Matrix) and nearly the fastest since the beginning of the pandemic (2.9 percent between February and October). Indeed, Columbus, Indianapolis (2.7 percent) and Kansas City (2.3 percent) respectively recorded the third, fourth and sixth fastest rent trends in the region since February, and each readily topped the -1.1 percent U.S. primary and secondary market average.
The fastest rent growth in the region, however, was recorded by two metro areas not blessed with brisk population growth — Cincinnati and Detroit. Between February and October all property rents increased 3.0 percent in Cincinnati and 3.4 percent in Detroit, figures exceeded in only a handful of markets nationally.
Those locations with higher rent growth included Colorado Springs, the Inland Empire, Las Vegas and Sacramento, each of which benefitted from an influx of residents seeking lower-cost, lower-density options than were available in Southern California, the Bay Area and Denver during the pandemic.
Occupancy also gained ground. Cincinnati stabilized, same-store property occupancy increased 7 basis points from February to September, while Detroit/Ann Arbor/Lansing occupancy improved 11 basis points February to September to 95.52 percent. Seasonality? In part, but the results were immaterially different from the respective 19 basis points and 7 basis points advances recorded in the same period of 2019.
Absorption of space in new properties also was constructive. Lease-up experience among completed but not stabilized Detroit/Ann Arbor assets was stronger in each month after April than in the year before, while Cincinnati developers (including those with buildings in infill neighborhoods) appeared to record the best average lease-up figures in the last four years in August and September.
The strongest occupancy gains were concentrated in suburban submarkets. In Cincinnati, lower density neighborhoods surrounding the urban core posted 20 to 50 basis point occupancy rate increases during the pandemic, including same-store gains of nearly 200 basis points in neighborhoods with large inventories of naturally occurring affordable units, like Mount Airy and College Hill.
In Detroit, suburban Oakland, Macomb and Monroe County occupancy rates were sharply higher, but Wayne County levels fell, especially in the high density Downtown, Midtown and New Center neighborhoods, where same-store levels fell nearly 260 basis point to about 90.6 percent
Economic performance doesn’t explain this relatively positive outcome. At 7.6 percent, Cincinnati average payroll job losses in the March to September period were nearly as severe as the nation’s 7.8 percent decline. For its part, the Detroit metro area suffered a devastating 12.9 percent plunge in the same period, rising auto production in recent months notwithstanding. Similarly, average hourly wages in each metro area increased at materially lower rates than the 5.3 percent national average.
Rather, solid performance is in part attributable to the ready availability of unemployment insurance benefits and tenant movement downmarket and to the suburbs, where rents are generally lower. As production of new single-family housing remains modest, most rental householders are electing to “shelter in place”.
Multifamily markets in both metros have weathered the pandemic recession well so far, and investors may find attractive acquisitions under the circumstances. Affordable housing represents one option. More households will become income eligible during the recession and emergency government benefits will continue to bolster renter finances until service employment opportunities improve.
By the same token, cap rates for affordable properties are compelling, even as financing costs remain at historic lows near 3 percent. Going-in yields for LIHTC complexes gravitate toward the 5 percent level, and properties with HAP contracts may trade at 6 percent yields or higher.
In the market rate arena, higher quality suburban gardens are worthy of consideration. Valuation cap rates range to the high-5 percent area for product targeting baby boomers in the Detroit exurbs, and assets in the Cincinnati area that may attract older millennials bound for the suburbs trade in the 5.25 to 5.75 percent range. A combination of high levered returns and low performance volatility, even under recessionary stress, may be just the tonic in the volatile current environment.
— By Daniel J. Hogan, Lument (formerly, ORIX Real Estate Capital) Managing Director for Research. Lument is a content partner of REBusinessOnline. The views expressed herein are those of the author and do not necessarily reflect the views of Lument or of the author’s colleagues at Lument.
For Hogan’s insight into other markets, click here.