The Federal Reserve has continued tightening monetary policy, most recently increasing the Fed Funds rate by 75 basis points. This rate-hike represents the largest Fed Funds rate increase since 1994—a tactic the Federal Reserve is using to try to cool inflation’s current 40-year-high of 8.6%. As a result, financial advisors and investors alike turn to investment strategies designed to attempt to build and protect wealth. To learn the impact of rising interest rates on Multifamily Real Estate, we must look at the potential influence of rate increases from different perspectives.
Multifamily property owners may need to refinance debt as existing loans come due. In a rising interest rate environment, potential debt considerations include higher fixed-rate loans, or more complex instruments like interest rate swaps or caps. Regardless, higher debt service requirements can squeeze cash flow, but Multifamily Real Estate fundamentals have remained strong. For example, the continuous housing shortage has created persistent Multifamily demand as more people are priced out of homeownership and are required to rent.
Rent growth is also expected to continue its positive trend from last year. In its 2022 Multifamily Outlook report, CBRE forecasted a 7% growth in net effective rents for the Multifamily sector this year.
An increase in interest rates could bring down cap rates for Multifamily property owners, potentially signaling for investors to seek traditional Fixed Income. Bond yields, however, don’t always move in sync with Multifamily property cap rates, which is why CBRE remains bullish on the sector’s chances to shrug off any potential impact of rising interest rates.
“We don’t believe rising interest rates will have any impact at all. Considering the amount of capital targeting this real estate sector, there is sufficient spread between the cap rate and bond yield to allow for modest continued compression in cap rates as we saw in 2021 when rates declined about ten basis points.”
- Matt Vance, Americas Head of Multifamily Research at CBRE, January 26, 2022
Some industry analysts might argue rising interest rates may even positively affect Commercial Real Estate performance. For example, as represented by the FTSE Nareit All Equity REIT Index, REIT returns were positive during 84% of rising rate periods from Q1 1993 to Q2 2021.
To echo our previous point: Real Estate valuations have the potential to be somewhat insulated from rate increases if demand manages to remain strong in 2022.
“The change in interest rates is not expected to reduce demand for multifamily housing this year. A lot of demand is driven by property values and fundamentals, both of which are extremely strong right now.” - Jamie Woodwell, Mortgage Banker Association VP of commercial real estate research. - multihousingnews.com
Multifamily investors and property owners are wise to watch how higher interest rates could impact Multifamily investing. But as we’ve discussed, several factors suggest Multifamily Real Estate may be well-positioned to continue the strong growth it has exhibited since the early days of the pandemic.
If you’d like to learn more about the multifamily investment option, download our FREE eBook, A Potential Inflation Hedge for Today: Private Multifamily Real Estate. You can also conveniently schedule a one-on-one meeting with me HERE.