Making the right moves in a higher interest, high inflation economy.
For many real estate investors and developers involved in the rental housing industry, interest rates have been historically low for the entirety of their career. The environment in the last decade-and-a-half has been one of a low interest, low inflation economy, where “cheap” leverage is readily available for investments of all types, especially multifamily real estate. However, it’s no secret this landscape is rapidly shifting with inflation and rising interest rates.
A shift to a higher inflation economy can be a daunting change – no matter the experience level of an individual in the industry – but with a bit of planning and the right perspective, there will still be opportunities to make great investments and maximize the potential of an existing portfolio.
First and foremost, don’t let the current news cycle create tunnel vision, where multifamily investments are only thought of through the lens of inflation and rising rates. The countless other factors that affected decision-making yesterday are still relevant today and will continue to be relevant regardless of what happens with inflation or interest rates.
As always, the fundamentals still matter – job creation continues at a rapid clip in many markets, housing shortages are causing high demand for rental housing nationwide and demographic trends continue to propel certain markets. An inflationary economy may or may not have impacts on these types of fundamental considerations, but decisions should never be too focused on any singular factor. Real estate investment and development projects are far too complex to approach with a narrow view or to focus on any one or two factors when making ongoing management decisions.
Second, keep context in mind. Today’s interest rates are higher than they were 18 months ago by as much as 150 basis points across the board, but it is still a historically low-rate environment compared to peaks in the early 2000s, and even 2018 when the 10-year treasury yield averaged 2.91% for the year compared to the 1.90%-2.05% range witnessed in February 2022. We won’t even mention the double-digit interest rates of the 1980s. In short, don’t be overly rash in reacting to “sticker shock” interest rates that seem high compared to yesterday but are still a great deal compared to just a few years ago.
Third, focus on the “blocking and tackling” of managing a multifamily portfolio. Times of uncertainty can present great opportunities for buying or selling if an investor is liquid and long-term focused. However, if skittish about making big moves in a shifting market, consider spending energy on fine-tuning the basics of your existing investments. For example:
- Refinance debt while you can still lock-in relatively good interest rates – sure you might wish you had done it a few months ago, but for any financing more than two years old, there’s a good chance you can still get a rate reduction by refinancing today.
- Lock in pricing on materials and services now before inflation spreads further. So far, inflation has hit hardest in food and fuel, but it will likely creep into other parts of the economy soon enough. It’s a great time to lock in longer-term contracts for utility costs, construction materials or other third-party services.
- Retain key personnel. If you rely on property managers, maintenance crews or office staff to manage your properties, now is the time to make sure they’re happy. Remember that inflation means your staff’s cost-of-living is also quickly increasing, so consider raising wages or offering additional perks. The job market is healthy, so good employees will know they have options, and you don’t want to go into a rapidly changing economy without your best people.
- Tackle deferred maintenance. Whether you use cash or borrow funds to tackle deferred maintenance projects, it’s likely you will save by doing such projects now instead of waiting. Keep an eye on construction contracts as you are bidding out projects – many contractors are reacting to the threat of inflation by shifting the risk of rising materials costs to property owners. Any maintenance or repair items that boost curb appeal will also help with justifying rent increases to keep pace with inflation.
In summary, the market is changing with inflation and higher interest rates, but don’t panic. Don’t ignore fundamentals or succumb to tunnel vision – get out and grab new deals if you can, but always pay attention to the basics of good property management.
James Yoakum is a real estate and finance attorney at Kleinbard LLC in Philadelphia.