It’s time to get the crystal ball out! What lies in store for multifamily real estate in 2023? Stay tuned to find out!
My name is Kenny Wolfe and I’ve been a real estate syndicator and investor for over eleven years; in this time, I’ve built a successful real estate investment firm, Wolfe Investments. If you’re new to the show, make sure to subscribe so you’re notified when a new episode comes out.
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What lies in store for multi-family real estate in 2023? Stay tuned to find out.
Welcome to Real Estate Investing with Kenny Wolfe. The show with weekly topics designed to help you learn how to build your ideal life through real estate investing. My name is Kenny Wolfe and I've been a real estate syndicator and investor for almost 12 years now. And in this time, I've built a successful real estate investment firm, Wolfe Investments. If you're new to the show, make sure to subscribe, so you're notified when a new episode comes out.
First, we need to dive into what happened in 2022 to see what's to be expected in 2023. 2022 was one of the strangest years in rental real estate. In the 12 years I've been investing in multi-family assets, we had interest rate headwinds, but those headwinds were fully offset and then some, by doubled digit rent growth and very high demand for our multi-family units. Across our multi-state portfolio, the amount of cash that was pumped into individuals checking and savings accounts from the Covid 19 relief sent out in 2020 and 2021 really came to a head. This is what fueled the raging inflation of 2021 and 2022. The demand deposits were $1.9 trillion in November of 2019, right before Covid hit. In June of 2022, those demand deposits were over $5 trillion. We're lucky we only saw 8% annualized inflation, so far. All this money sitting in people's checking accounts was burning a hole in their pocket. That's what has caused the boost in inflation; inflation as the Fed measures it. Now they take out food and energy because who needs that? That inflation number has started to come down. I do think we'll see it leveling off, but to get it down to their target 2% is just going to take time for all that cash to rinse through the system.
As 2022 comes to a close, we are still seeing double digit rent growth on renewals and our upgraded unit interiors are still in high demand. Neither our vacant units nor our upgraded units sit on the shelf for very long. What's also interesting is we've also seen a later-than-usual leasing activity in the year. Usually the leasing season starts in January and February and goes through October, November depending on the market. But this year we are still seeing higher leasing activity. Even now, in December of 2022, with rent growth strong, demand for apartments far outpacing the supply and the tail end of inflation at our back, residential real estate was a great place to be in 2022. Lending in 2022 shifted in a major way starting around April. That's when we went from transitory inflation to “holy cow, this is real inflation” with the Fed. Rates started to rise and there were some nerves in the lending space. Those nerves shifted the lending landscape in a big way. Back in 2020 and 2021, we were using a lot of agency lending, so that's Fanny, Freddie, and HUD, and Bridge lenders as our lenders. The agencies were still doing high leverage, low fixed rate, non-recourse loans back then. The bridge lenders had even better terms than the agencies and we were smart enough, (it was also mandatory) that we buy interest rate caps on those floating bridge loans. Then the Fed started talking about raising interest rates earlier in 2022.
That got the folks in the lending space excited, but in a bad way. Overnight the bridge lenders were taken out of the lending space--they just disappeared. The agencies pulled back on their leverage from 75 to 80% to 60 to 65%. So, when life gives you lemons, you need to make a lot of lemonade. Because of the demand deposits mentioned earlier had really jumped, that meant the local and regional banks now were the best place to go to get a loan. Those banks had more than double the cash on hand than they did in November of 2019 and they had to get it out the door and put to use. It's their job. So we here at Wolfe Investments started using a lot of bank debt to fund our acquisitions and refinances throughout 2022. All this year we were locking in high leverage loans at a fixed rate through those banks. It was awesome. You must go where the fish are biting.
The last two months of 2022, we've have started seeing the agencies come back up on their leverage somewhat. And I've even seen a few bridge lenders start to make a comeback in the lending space. Now let's jump into 2023. We are still seeing double digit rent renewals and high occupancies across our multi-family portfolio. I fully expect that rent growth and high demand to continue into 2023 and the markets that we own in the cash and individual banks will take a while to work through the system and that will continue to push rents up. On top of that, we have a 3.6 million housing unit shortage across the country. We add to that deficit every single year for new A-class units; there is no way to build B and C class units new as labor materials and land cost way too much.
For the B and C class apartments, you have a stagnant supply of units with an ever-growing demand for those units that serve the middle class and below. Demand will continue to outstrip supply all the way from our A class units to our C class assets in multi-family. These higher rents and high occupancies will continue to push values up over the long term. Residential property owners will continue to enjoy the higher revenues for sure through 2023. Because of this added value creation from inflation and demand, I think deal flow will be pretty much anemic, as any property owner should delay selling an asset, when everybody in the market knows that interest rates will have to come down, starting about the third quarter of 2023. These lower interest rates coming in the future will unlock the new higher values for these properties. A higher net operating income will be enjoyed and, if you can hold off on your loan payment and from your loan being paid off through the third quarter of next year, than you as a property owner will be rewarded by waiting to sell until that time period. My educated guess is that a deal flow for existing multi-family acquisitions are going to be at all-time lows until about the third quarter of next year. Why would an owner sell when they have an excellent shot at getting higher sales prices later on in 2023? There will be some deal flow for sure. There always is, but what I really highly doubt is that there will be a fire sale on those sales, as some other gurus have caught on to. Why is that? Because rents are higher and going higher. Occupancies are high and should remain high because of the lack of supply and everyone was forced to buy interest rate caps, which have all kicked in at this moment. Banks still have a lot of cash on hand to lend money and both the agencies and bridge lenders are coming back into the lending space. The lending landscape will be really interesting to watch in 2023. We are already seeing the reemergence of agency terms getting back to where they were. Bridge lenders starting to come back in the lending space and the banks continue to have a lot of cash on hand that needs to be placed out in the market on the AS loans. I think it will take until mid-next year to really see the agencies come back to full force on their terms and the bridge lenders will start to be fully backed somewhere in the third quarter of next year.
With the added competition, it should mean that the terms for us borrowers should only improve all the way through the end of next year. On top of that, the interest rates simply cannot remain at these higher levels, as our nation has 31 trillion worth of debt. Those interest payments are unaffordable even at today's rates. We'll start to see the Fed to drop interest rates somewhere and around the third quarter, in my opinion. Goldman Sachs is predicting the interest rates to drop starting in January 2024--we're going to see who's right either way. That means these interest rate caps will go down and depending on how far the rate drop is, the floating rates for borrowers will also go down as well. That means cash flow should be even stronger once that happens. Since rents are up and demand for these units will remain high. Also, because of how much liquidity there is in the market and banks are still doling out great loans, that means there won't be a major fire sale on properties through 2023.
2022 was a very strange year to be in the residential real estate space. High rent growth and high demand fully offset, and then some, on the interest rate hike headwinds that we had this year. 2023 will continue to see high rent growth and demand with the market fully expecting interest rates to drop towards the third quarter of next year. We'll have low deal flow until then. Once we hit the interest rate drops, we'll see massive deal flow and a lot of pent on demand for acquisitions in the multi-family real estate space.
This has been real estate investing with Kenny Wolfe. Thanks so much for listening.