When I was a kid in AZ in the late 1970s and early 1980s, I would read about young developers getting filthy rich developing apartments.
Inflation and an influx of new residents pushed up apartment values and rental rates, making it easier to pay down debt – and developers got filthy rich by just lathering, rinsing, and repeating.
I watched this happen again after the 2008 crisis, when apartment building prices crashed, and interest rates were very low. I know several people who sunk their retirement savings into apartment buildings and were able to retire on that income.
These many success stories are well-known, and this is what makes the allure of apartment investing so strong.
Apartment Development Boomed During COVID!
And we saw that allure play out in the extreme during COVID when rates were at record lows.
Prior to COVID, a typical year might see 300,000 to 350,000 new units come online.
But during COVID, permits exploded, as every developer in the country was convinced they could not go wrong by financing new apartments when rates were so low.
They were wrong, as they failed to account for the fact that every developer had the same thought.
We now have a huge glut of apartments.
In 2024, almost 600,000 units came online, and another 550,000 are expected to come online this year.
Long story short: we now have far too many apartments, and rents are falling – especially across the Sunbelt.
Deportations Exacerbated the Problem – And Then Some
Making matters worse is the loss of up to two million immigrants who have either been deported or who left voluntarily.
ALL of those immigrants needed homes, irrespective of their financial or legal positions, and their departure means far less apartment demand, no matter how you slice it.
So How Does This Help Mortgages and Real Estate?
Rental-related costs have been driving most of our inflation – anywhere from 30% to 90% of it, depending on how the data is interpreted.
“Shelter costs” (mostly rent) account for over 35% of the CPI calculation. And because shelter costs were climbing so quickly, they hit CPI much harder than other product prices – fostering as much as 90% of the inflation we saw in 2023.
IF shelter costs were back to pre-COVID levels, inflation would be a full 1% lower!
Long story short: Plummeting rental rates will make their way into our inflation numbers at some point – resulting in much lower readings. Unfortunately, it just takes a while because there is always a lag.
And almost nothing drives rates lower than cooling inflation.
So yeah, I think rates will almost certainly fall because of falling rental prices alone – boosting both the mortgage and real estate industries.
So thank you, greedy developers, who weren’t actually that greedy, but just doing what every American does: chasing dreams.
The other interesting thing is that this is a reminder that there is never a sure thing (like apartment investing seemed to be).
There are always factors none of us can anticipate, such as excess competition or 2 million potential renters leaving the market.
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