As housing affordability continues to challenge buyers nationwide, institutional investors are seeing a range of ways to help deliver much-needed supply to the market while also pursuing attractive returns. In the latest installation of our In Conversation Series, ARA CEO Stanley Iezman and Head of Research Sabrina Unger discuss ways investors can think about how this opportunity fits into their overall residential portfolios.

---

Stanley Iezman: Housing affordability means different things to different people. When you think about housing in today's world, what do you think housing affordability is, and how do you translate that to an investment strategy?   

Sabrina Unger: Housing affordability, by definition, is simply measuring the percentage of a household’s income that's going to rent. The typical benchmark or threshold that you want to be is below 30%. A simple example is a household making $100,000 a year could theoretically afford rent up to $2,500 a month and not be housing cost burdened. 

SI: If somebody spending more than 30% of their income on housing is housing cost-burdened, how prevalent is that in today's world and how significant is this to the community?

SU: In 2022, the median monthly rent nationwide surpassed $2,000 a month, and at the same time, median household income in the United States is about $78,000. So again, if we're using that rent-to-income ratio, we're right at the 30% threshold. If we consider that anything above that is rent burdened, then effectively for the first time in 20 years, we are nationally rent-burdened. It's important to remember, too, that the median rent number – that $2,000 a month rent – that’s including low density, low growth places that are naturally going to have lower rents. It's not really reflective of rents on the ground here in Los Angeles, in New York, Raleigh, or any of these high-growth markets, where the majority of job opportunities are. So in real numbers, over 19 million U.S. renter households are paying more than 30% of their income just towards rent. That's a pretty staggering number.

SI: That is pretty significant. So how did we get here? What caused all of this?

SU: If you look at housing costs – the actual cost to construct, whether it's a single-family home or a rental building – things  like lumber and labor, steel, the taxes that we pay on our homes, the money that we have to spend to manage these buildings, all of those costs continue to go up, and they're going up faster than renter incomes. So in order to be able to justify building new apartments, the rent level that it requires continues to go up, and as we've said, rents are growing much more rapidly than income. In a simple math equation, the numerator, which is people's income, is not growing as fast as the denominator, which is rent, and that's creating this affordability issue.

SI: So, in the high-cost markets like Los Angeles or New York or Chicago, do you think that the politicians are really thinking about this and understand the issue as they try to develop policies to address this?

SU: It's a little bit of a catch-22. They want affordable housing, they want accessibly priced housing, they know that there's a shortage of it, but at the same time, they don't want to be giving out handouts. They're fiscally challenged by virtue of the fact that their taxes have gone down, their revenues have gone down in a post-pandemic world, and so it's really challenging. They are acutely aware of the challenge in their cities, but it's not so easily solved as we've seen.

SI: What we have seen over the last several years is that rents have grown much faster than normal – it’s been rather significant. How do you think we should be thinking about rent growth and housing in today's world from an investment's standpoint? Do you think it's going to continue or are there going to be political pressures to stop that?

SU: Most owners are raising rents really out of necessity, just to maintain the quality of their buildings. Now, that's not to say there aren't some predatory practices out there, but by and large, rent growth is really a function of broader supply-demand imbalances. So I don't think it's viable or realistic to assume that rents don't continue to go up. Now, there are certainly jurisdictions that are starting to talk about things like rent control as a mechanism to try to slow the pace of rent growth, but academically, and we've seen this throughout the world, not just in the United States, rent control typically has the opposite effect of what it wants to do. Whereas, governments are trying to maintain affordability, what it ends up doing is squeezing out the incentive to deliver new supply and exacerbating affordability. So although there certainly will be cities that will continue to contemplate it, there are a lot of challenges to the effectiveness of that approach.

SI: Do you think we have the ability to build our way out of this in urban areas where there's a high cost of land and the high cost of construction?

SU: I think we have to be very strategic and creative [in solving this], especially in high-cost markets like Los Angeles, New York, Boston, any coastal market, even some of the Sun Belt markets are becoming increasingly unaffordable. So that's going to involve things like manufactured housing, pre-fabricated units. We're starting to see that there might be an opportunity in what's called accessory dwelling or accessory residential units, so ADU or ARUs. For a lot of people, they're probably more familiar with that type of housing by its colloquial name, so it's an in-law suite or a backyard cottage or a granny flat. But really what it's doing is taking single-family plots and allowing greater densification by adding a stand-alone home in the backyard. These are typically lower cost to rent by virtue of them being smaller, and so that is one potential solution.

SI: So one of the knock-ons of that is the idea that the local community is resisting them, because of the fact that they don't want their streets to be burdened with additional parking, there is demand on the infrastructure, etc. There seems to be some pushback to this in certain communities – do you think this has legs to it and that it is going to be a roadblock in the future, particularly in areas like California, where there's a massive shortage of housing?

SU: I'm sure that there will be certain neighborhoods that will win that fight, that will say, "We don't want densification." The acronym is NIMBYism, "Not In My Backyard." I think most people, if you ask them, "Does this country need more affordable housing?" I think most people would say "Yes," but if the next follow-on question is, "Okay, can it be in your backyard?" The answer is usually "No." So again, I think local municipalities may have to step in and try to do some creative rezoning or incentivize these communities to accept the fact that this is actually better for the entire community to be able to house people across the income spectrum. But it still remains to be seen, it's early days.

SI: I like your idea that we need to be a little bit more creative in the idea of doing manufactured housing and some other alternatives. How do you think that investors are going to incorporate that into their investment strategy? Right now, most of us think about multifamily housing as vertical subdivisions that are going up. How do you think we should think about that in terms of, for example, single-family rental and flat communities where there's horizontal work that is going on as well?

SU: I think our investors need to not look at it as an either-or. It's not “I'm either having an allocation to traditional multifamily, or single-family rental, or manufactured housing”, we really need to look at residential investing across the spectrum. So if you only had student housing, you're only capturing renters from the time they're 18-22, and if you only have single-family rentals, you might be capturing them from 30-45. If you have diversification in your residential holdings, if you have some urban apartments, some garden style, low-density single-family rentals, and some of this accessibly priced product, you're effectively setting your portfolio up to capture a greater share of the renter cohort and keep them in your rental portfolio for longer periods of their life. That I think is a great diversification tactic for investors.

SI: Does our conversation change, if we start thinking about investing in the multifamily area in affordable markets such as Austin or Atlanta or Charlotte, as opposed to the high-priced markets of Chicago, Los Angeles, New York, using those as a proxy?

SU: I think the ability for us to deliver certain types of product is dictated by land availability, by cost, but if you look at the numbers, every single market has a pretty deep pool of renters that are housing cost-burdened. So there is an opportunity, even in markets that traditionally we have thought of as being relatively more affordable than the coast, so Charlotte, Raleigh, Tampa, Orlando, these were all markets that historically people move to because they were cheaper, but the reality is rents have really grown so quickly in those markets, too, that now there's an opportunity to serve those particular households by going out into lower-density parts of the market and delivering more accessibly priced product. So it doesn't necessarily change the conversation about whether there's an opportunity or not, it's just how do we deliver on it.

This transcript of the ARA In Conversation discussion has been edited for clarity.

Discover More

Watch more ARA In Conversation, as Stanley Iezman and Sabrina Unger discuss the Demographics shaping real estate.

---

Disclaimer

The information in this video is as of March 1, 2023, and is for your informational and educational purposes only, is not intended to be relied on to make any investment decisions and is neither an offer to sell nor a solicitation of an offer to buy any securities or financial instruments in any jurisdiction. This video expresses the views of the author as of the date indicated and such views are subject to change without notice. The information in this video has been obtained or derived from sources believed by ARA to be reliable but ARA does not represent that this information is accurate or complete and has not independently verified the accuracy or completeness of such information or assumptions on which such information is based. Any opinions or estimates contained in this video represent the judgment of ARA at the time this video was prepared and are subject to change without notice. This video is proprietary to ARA and may not be copied, reproduced, republished, or posted in whole or in part, in any form and may not be circulated or redelivered to any person without the prior written consent of ARA.

Forward-Looking Statements

This video contains forward-looking statements within the meaning of federal securities laws. Forward-looking statements are statements that do not represent historical facts and are based on our beliefs, assumptions made by us, and information currently available to us. Forward-looking statements in this video are based on our current expectations as of the date of this video, which could change or not materialize as expected. Actual results may differ materially due to a variety of uncertainties and risk factors. Except as required by law, ARA assumes no obligation to update any such forward-looking statements.