For Investors, Class-A Multifamily is Out & Class-B is In – A Guest Post from Llenrock Group
Mar 23, 2016
This post from Tatiana Swedek is part of our Llenrock Group guest post series and originally appeared on the Llenrock Group blog.
Class-A is out, Class-B is in. At least that’s true for investors. According to National Real Estate Investor, multifamily developers are starting to see more opportunity in value-add strategies for Class-B assets. There is a huge need for multifamily properties which better fit the financial needs of the average U.S. earner who wants comfortable amenities but can’t afford luxury units. It’s what David Schwartz, CEO and co-chairman of Waterton, calls “an affordability crisis.”
In attempts to remedy a market gap, developers are turning to renovating older apartment buildings. The most promising value-add prospects can be found in 1980s assets which are in need of reinvestment in order to replace, and ultimately upgrade, the interiors, amenities, appliances etc. of the units.
These opportunities are in response to a huge demographic shift: renters expect more but can’t afford to give up a huge chunk of their paycheck for those desirable class-A units. While there is perhaps an oversupply of unaffordable luxury properties, mostly in downtown urban districts, developers don’t tend to build class-B buildings ground-up. Between 2013 and Q3 of 2015, vacancies rose considerably in downtown and secondary business districts because of the building boom. This includes Boston’s Downtown, which had a vacancy rate change of 12.4%, and Philadelphia’s University City, which experienced an 11.8% change.
Let’s face it, it’s less expensive for investors and developers to rehab an existing building anyways. But these value-add projects really only thrive best in markets and sub-markets in which there is a considerable amount of room between rent prices of class-A and class-B properties. “We want there to be hundreds of dollars of difference between the new class-A and the existing class-B apartments,” comments Schwartz. To find a happy medium, it’s best to redevelop in markets where rents for luxury properties are on the rise.
In some areas, however, these older and more affordable apartments are seeing an even greater rise in rent prices than luxury units. For instance, Denver rent prices for class-B and class-C units saw a 13.1% increase whereas lifestyle units only saw a 7.8% hike over a 12-month period.
Barbara Byrne Denham, an economist at Reis Inc., told National Real Estate Investor that there are specific areas where investors and redevelopers can find promising opportunities:
“The markets with the widest gap in rent growth rates include Cleveland, San Francisco, Charleston, Boston and Chicago, with annual rent growth rate gaps of 4 percentage points or higher.”
So yes, investors are jumping at these value-add strategies; however, some may find themselves in a bind if they aren’t smart about factors based on pricing, demographics of a certain market and, to put it simply, whether they are fulfilling the needs of that market or just trying to fix something that was never broke in the first place.
Posted by: Raymond T. Cirz