Lessons from the Pros

Real Estate

Multi-Family Properties Fundamentals

The first fundamental of multi-family property is household formation. How is household formation defined? The number of housing units needed for new households to take up residency. According to a presentation done by USC, household formation is calculated as the population (coming into the market) divided by average persons per household, which equals the number of new housing units needed.

For example: 1,000 population/3 persons per household = 333 housing units needed.

There are two categories of official households: “family” and “non-family”.  Approximately 66% of US households are families with the remaining 33% classified as “unrelated people” sharing a living space – for example college students, unmarried couples, singles living on their own or with roommates.

The charts below show that “non-family” households have been growing in line with the US population with the exception of 2008 but they have rebounded since then.

# of non family

However the “family” formation has dropped steadily since 2002.

number of family

How does this contraction affect the family and the nonfamily sector?  First, there has been a slowdown in the building of family type units. The new developments we see in the pipeline are more tailored to the growing “non-family” households.  For example, apartment complexes that have multiple bedrooms each with its own bathroom, and a lot of amenities.

Demand for apartments is measured by net absorption, defined as the rate at which available units are rented given a time period. (See chart below).

abs rate

The survey of Market Absorption of Apartments (SOMA) tracks completions and market absorptions for multifamily rental and “for-sale” housing in 5+ unit properties.  The most recently released data shows an increased absorption rate of 60% after falling to 56% during the first Q of 2012.

This is one of the factors why I think that many Multifamily REITS are doing well.

Another interesting aspect is the increase in multigenerational households.  Data from the 2009-2011 ACS (American Community Survey) shows that there are 4.3 million households that are multigenerational.  This is a significant increase from 2000.  How is a multigenerational household defined?  It is defined by having three or more generations under the same roof.  The Census report indicates a higher share of such households in the south and the west.  The rates jump to 6.0% and 6.7% respectively.   Even with the improvement in the economy, this trend isn’t expected to decrease.

muli family

Vacancy rates are also a big contributing factor to rental prices and simple supply and demand.

The chart below shows the 10 metropolitan areas with the lowest vacancy rates.  Some project that large metropolitan areas that have low vacancy rates and no planned building will start to see rent increases.

Since multifamily commercial properties are priced on a calculation of current value and net operating income, known as “cap rate,” if net rents are lower, so will be the price. And the reverse is also true, if rents increase so will prices.

rental vac

In class, I show you all the best places to find vacancy rates along with other useful data to help you make a buying decision.

With this data you might think it’s time to buy multifamily property. Well it is, with a little caution.  Things to watch out for are:

The credit markets, is financing available?

Just because there are fewer projected building projects in the loop doesn’t mean that can’t or won’t change.  If demand really snaps back, builders and developers will start pulling permits (and we are seeing that increase steadily). On average these projects can take as little as 9 to 18 months from start to completion.

Remember, people always need a place to live, work and shop.

Great Fortune,

Diana Hill


DISCLAIMER This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk. The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.

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