Five questions: Where is residential real estate going next?

1 How are macro conditions affecting residential real estate and how resilient is the sector?

Sabrina Reeves: We are in a volatile and historically elevated period of housing cost growth, similar to the 1970s, which is likely to persist until supply can catch up and demographic pressures wane. Inflation is clearly the biggest factor in Europe, with temporary rent caps introduced in some markets to protect in-place tenants.

Meet the panel

Sabina Reeves

Chief economist and head of insights and intelligence

CBRE Investment Management

Lauren Hochfelder

Managing director and co-CEO of Morgan Stanley Real Estate Investing and head of MSREI Americas

Morgan Stanley

Sophie van Oosterom

Global head of real estate

Schroders

Sophie van Oosterom: On the demand side, increased interest rates are limiting consumer ability to acquire residential units, increasing the demand and pressure on the rental market. However, the ability to pay higher rent is also being impacted by overall consumer purchasing power declines, caused by sustained higher inflation levels.

Lauren Hochfelder: Over the last 12 months, a confluence of several macro conditions has led to a slowdown in fundamentals and a softening in capital values.  Net operating income growth has been negatively affected by both slowing top line rental rate growth – itself a function of affordability challenges, inflation squeezing consumer incomes, record levels of supply and job losses – and elevated expenses. Notwithstanding these macro headwinds, we expect multifamily to be a relatively resilient asset class, as it has been historically.

2 What are the main growth opportunities you see in the sector?

SVO: The main opportunities in the sector are aligned with long-term demographic trends, as well as our ability to improve services and optimize operations efficiencies that drive long-term sustainable net income and value. As a result, we see interesting investment opportunities arise in student living, senior living and other living with care formats.

LH: Class A multifamily and build-to-rent in strong in-migration markets are attractive because you can acquire assets below replacement cost and at yields substantially above those of Q1 2022. While affordability ratios have weakened, they remain below 30 percent in many markets.

SR: In the Americas, not only have we not built enough housing overall, but we have not built enough of the type of housing that is most needed. In particular, homebuilders have focused on the trade-up market and neglected starter homes, which are now one of the most squeezed segments of the housing market. High-density rental development in the urban core has also missed the mark relative to where we expect demand to head in the coming decade.

3 Which sub-sector should be getting more attention?

SR: The ESG benefits of single-family rental deserve more attention. It is often neglected that SFR has consistently been a major part of the US housing market going back 50+ years, with a steady share of about 10-15 percent of all households and about a third of all renter households living in single-family homes. What has changed is the technology and economies of scale that now support institutional investment in the space.

LH: We continue to like the build-to-rent strategy given the demographic and secular tailwinds of aging demographics and consumers’ increased preference for single-family living. BTR also has a better supply outlook than multifamily in most markets and, as its closest substitute, is disproportionately advantaged by the challenges of buying a single-family home in a higher rate and tighter credit environment.

4 How important are ESG and sustainability considerations?

SR: Valuers are expected to become increasingly punitive, adding larger brown discounts to reflect energy performance certificate (EPC) risk. This in itself is an opportunity to look at brown-to-green strategies where capex upgrades can shift an asset into a higher EPC threshold.

SVO: Sustainability considerations and driving positive social impact are integral parts of any (residential) investment and asset management strategy for investors concerned about long term investment performance.

LH: Sustainable properties tend to command premium pricing through both higher rents and greater investor demand. Sustainability features are highly desired by class A apartment renters and a focal point during many lease tours and in the day-to-day experience of residents. Typical features include energy-efficient appliances, indoor air quality infiltration and LEED certifications.

5 What does the rest of the year hold in store for residential real estate?

LH: We expect class B multifamily to see greater re-pricing than class A for several reasons, including greater affordability challenges and class B investors’ greater use of leverage, including floating rate debt which is more typical for properties intended to be repositioned then sold.

SVO: The most likely outcome of the current macroeconomic environment is that residential land prices will have to adjust downward, and/or that investors adjust their return expectations on residential investments. The latter could be justified given the long term positive (demographic) fundamentals, ultimately reducing risk and securing income at sustainable levels for the long term.

SR: We are still seeing the US residential market reset a bit from the frenzy of the past year or two. We expect modest rent growth this year and managers to prioritize cost control and occupancy, particularly as the wave of new supply is absorbed.