Return Of Rent Growth Stokes Concerns Over Fed's Plan To Lower Rates

Apartment landlords who spent the last two years saddled with higher costs and dwindling revenue may soon catch a break as early signs of rent growth materialize.

Rents are beginning to inch up in metros where new product has been muted, a trend expected to put upward pressure on the nationwide average even as a supply glut bears down on the Sun Belt.

But whether that relief comes at the expense of the CRE industry at large is still uncertain, with some fearful that rent growth could stall long-awaited interest rate cuts even longer.

“We’re seeing surprisingly strong performance in the multifamily market, considering everyone and their mother thought there was going to be doom and gloom, left and right, all day long,” Sam Tenenbaum, head of multifamily insights for Cushman & Wakefield, said at this week’s National Association of Real Estate Editors conference in Austin. 

The proverbial light at the end of the tunnel is good for apartment owners, especially after a prolonged period of pain caused by elevated interest rates, rising operational costs and the pressure to compete on price with newer, nicer product.

But some worry rent growth could be bad for CRE as a whole, as it may discourage the Federal Reserve from cutting interest rates anytime soon. Shelter inflation, the government’s measure of home and apartment rents, is a large driver of consumer price index results that could delay an interest rate cut.

“The housing situation is a complicated one,” Fed Chairman Jerome Powell said at a press conference last week. “The best thing we can do for the housing market is to bring inflation down so that we can bring rates down.”

Around 575,000 new apartment projects debuted last year, and another 475,000 are coming in 2024. The number of deliveries is not expected to normalize until 2025, when that number is expected to drop to 350,000.

The impact on rents has been acutely felt in some markets, especially those with giant supply pipelines. All 11 markets that reported rent declines of 2.5% or more in March had inventory growth that outpaced the national average, with asking rates down more than 7% in supply-heavy metros like Austin.

“Austin is the poster child for the pandemic boomtown,” Odeta Kushi, deputy chief economist at First American Financial Corp., said during a NAREE panel. “A lot of net immigration, a lot of growth, a lot of appreciation, and what goes up so fast did indeed come down.”

Despite falling rents in the Sun Belt, demand for apartments has stayed strong. The U.S. absorbed about 86,000 units in the first quarter, 60% higher than a year ago and the second-best Q1 outside of the market’s immediate post-pandemic rebound, Tenenbaum said.

“We continue to see erosion in overall occupancies and stabilized occupancies,” he said. “But, that said, really good demand is a really good sign for the multifamily market.”

Zooming out from the Sun Belt, Midwestern cities have already seen rent growth rebound, with Chicago prices up about 4% year-over-year in December, Forbes reported.

The buoying of demand is in large part driven by high mortgage rates. Millennials are at the prime age for homeownership but only hold 6% of the nation’s net worth, forcing many to remain renters longer than their generational predecessors, Kushi said.

But with many baby boomers aging out of homeownership, millennials could have an influx of housing to choose from in the coming years.

“There are millennials on the sidelines waiting to jump into the market, waiting for the payment-to-paycheck calculation to work for them,” she said. “That’s a boon for housing demand.”

The prospect of homeownership grows further out of reach the longer mortgage rates remain elevated, but renting may not be cheaper for long. 

With construction starts at all-time lows, many multifamily insiders now believe the oversupply phenomenon will be relatively short-lived. Once the worst of the glut is behind us, rents will swiftly return to growth mode, Tenenbaum said.

“It doesn’t take an economist to tell you what happens when there is more demand than supply: rents tend to grow,” he said

New apartment groundbreakings are expected to drop 20% to 379,000 in 2024, according to the National Association of Homebuilders. Around 472,000 new units were started last year, down 14% from 2022. 

Fewer starts means it won’t take long to fill the new units coming online, and as supply dwindles, rents will once again creep up, Kushi said.

“When we take a step back, this housing market is still fundamentally underbuilt,” she said. “We’re starting to break ground on fewer apartments. So over the long term, we are still in a housing shortage, and that means we expect rents to pick back up.”

Whether the return of rent growth will deter the Fed from lowering rates remains to be seen, though some economists believe it won’t happen quickly enough to alter decision-making, especially considering the significant lag between asking rents and CPI rents.

“There’s still a long way to go in terms of shelter price inflation coming down,” said Richard Barkham, global chief economist for CBRE.

“Insofar as there have been gains in rents, they aren’t very big … and it will take 12 to 18 months for those to actually feed through into the shelter price.”