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Recently, I was asked to contribute an article to Forbes on the Three Real Estate Investing Trends in 2022. While the pandemic is still lurking in our rear view mirror, everyone is burdened with the significant spike in inflation. I'd like to provide my perspecitive of its relevance to real estate investing for 2022.
Everyone knew that inflation and interest rates had to rise sometime. We’ve been in a historically low interest rate environment for about 15 years now, with slow economic growth and negligible inflation. But there didn’t seem any reason to think now would be the time things would change. Then came Covid, and this comfortable economic equilibrium was knocked sideways. After coming to a screeching stop in 2020, the economy bounced back in 2021, advancing by 6.9%, the strongest growth in decades. Although the quick rebound is welcome news, Covid fallout will still impact the economy in 2022 as we deal with inflation brought on by growing consumer demand—government stimulus payments and increased wages have put money into consumers’ hands—coupled with a lack of supply of products and services to meet that demand-supply chain disruption and labor shortages that won’t be resolved any time soon. It appears the Fed is being cautious as it looks for ways to control inflation without hurting growth, but it will likely increase interest rates in 2022, possibly as early as March.
So, what does this all mean for real estate investors? Well, just like the Covid economy, the forecasts are mixed. Rising mortgage rates, whether for private or commercial property, are projected to put a damper on sales volume. In addition, rising inflation has already caused much higher costs throughout the real estate industry ranging from the higher cost of building materials, energy and utilities. At the same time, rising rents have helped landlords recoup these expenses in real time. Property values are also likely to increase as valuations are driven by a lack of supply—when building costs go up, development goes down—and rising income returns. On balance, real estate rents have gone up much faster than mortgage rates and costs, resulting in favorable acquisition pricing and financing. Property values will continue to rise along with higher net operating income. The big question is whether cap rates will rise with inflation, or will they remain low given the attractiveness of real estate as an investment allocation.
According to Zillow Research, for-sale home prices rose 19.5% in 2021, and are expected to rise another 11% in 2022, despite the probability of higher mortgage rates. This red-hot market is pricing many young families, who would prefer a single-family home, out of the market. Enter the single-family rental (SFR) sector. Driven by large institutions that see a long-term investment opportunity, a niche sector that had typically featured one-off mom-and-pop rentals is now seeing a surge of professionally managed portfolios of homes. One of the largest real estate investors in the country, Blackstone, is sponsoring a new REIT focused on single-family rentals. This is no longer an interesting side play. SFRs look like a trend that is here to stay, as evidenced by the fact that 18% of the single-family homes sold in Q3 2021 were sold to investors.
The National Association of Realtors forecasts that the vacancy rate will further tighten to 4.8% in 2022 (5.1% in 2021) and rent growth to average at 10% (7.8% in 2021). One of the main forces behind the rental market upswing is the Covid-driven work-from-home trend. Once workers realized they could work from anywhere, many took advantage of the flexibility to move out of high-cost-of-living markets to more lifestyle-friendly parts of the country.
The Census Bureau’s latest housing starts report shows that large metro areas are losing significant market share to smaller cities. According to its most recent data, 811,000 newly constructed homes were sold in the United States in December 2021. Of those homes, 56% were located in the South while only 3% were in the Northeast. This trend isn’t new, but it has certainly been accelerated by Covid as younger workers seek a better work-life balance and older workers retire in near-record numbers.
Participants in the PricewaterhouseCoopers Emerging Trends in Real Estate 2022 report have taken note of this phenomenon. The top eight “markets to watch” are all located in southern states. These markets have exceptional growth prospects, attractive affordability, strong job growth and a warm climate. The eight markets for excellent real estate investment prospects are:
These smaller markets in southern states are growing at an exponential rate, and it makes sense that the things that attracted people to move to them in 2021 will continue to be attractive in 2022.
2022 is shaping up to be a very good year for the sophisticated investor who understands the trends accelerated by Covid-19 and knows how to take advantage of them. Unsettled and volatile markets always present some of the best opportunities—but also present some of the highest risks to those unaccustomed to taking new trends into account. Those interested in this market will need to take note of these trends and how they evolve in the coming year.
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