Economic - Red Pill Kapital, LLC

Real estate has been a great investment option over the years, as it promises commensurate returns. That explains the over 19 million rental properties in the US, with about 70% owned by individual investors.

Consequently, the built-for-rent (BFR) business has been a buzzword in real estate circles, with everyone clamoring for a piece of that pie. However, there’s been a seismic shift in the economy, which could impact that market segment.

There’s been a general economic decline. There are fears of a possible recession, playing to the soundtrack of doubled mortgage rates and home sales crashing while wages have stagnated.

To some real estate observers, the built-for-rent business model is about to take a significant hit, but will this come to pass? This article investigates the truths and misconceptions about the impact of the changing economic climate on BFR.

Economic Factors Affecting the Built-For-Rent Business

Economic changes affect rental prices and housing demand and can lead to extensive periods of vacancies. Some of these factors include:

Interest Rates

Change in interest rates dramatically affects the cost of mortgage. For instance, in a period of high interest rates, the mortgage payment cost will rise, leading to a drop in the demand for home purchases. The knock-on effect is that since fewer people can afford homes, the only alternative is leasing, which increases the demand for rental housing.

Economic Growth

A country’s income growth determines the demand for housing. People will spend more on houses as the economy grows and incomes rise, increasing demand and pushing up prices.

Indeed, housing demand is income elastic (luxury goods), with rising incomes leading to a more significant percentage of income spent on houses.

Similarly, people can’t afford to buy in a downturn, and those who lose their jobs may fall behind on their mortgage payments and have their homes repossessed.

Affordability

Another economic factor that affects the rental market is the ratio of the house to price-earnings. From 2015 to 2022, house prices are higher than income growth by 36%, which means the number of people who can afford homes has reduced since 2015.

Effects of Rent Control on BFR

With the various changes experienced in the economy leading to the steady rise in house rent, many states have come up with multiple strategies, such as enacting rent control. This program limits the amount you can demand from the house you lease.

While rent control benefits tenants, these programs directly affect the house markets, which would impact you as a real estate investor.

The research at Brookings University shows that although the effects of rent control will decrease rent prices for tenants in the short run, its long-term effects include:

Reduced affordability
Fuels gentrification
Creates negative consequences in the neighborhood

Further research shows that 8% of owners of rent-controlled buildings are likely to convert their facilities to condos to avoid the effects of decreased market prices. That led to a 25% drop in the number of renters in rent-controlled rental units as the property owners replaced the existing units.

Rebound in Rental Market

The pandemic period greatly affected real estate, but its market reignited in 2021, and the housing demand rose. According to the Census Bureau of Housing Vacancies and Homeownership, the number of rental households increased to 44 million during the post-pandemic period, leading to a decrease in rental vacancies by 5.8%.

The strong demand for rental units also fueled the rise in the price of properties. In 2022 alone, the price of rental properties rose by 13.4% from 2021. Therefore, although mortgage rates rose, rental property acquisition has remained the same since property owners have access to rental income and can increase the rental price to match the mortgage repayments.

Effects of Economic Changes on Rent Growth of Built-for-Rent Businesses

Over the past couple of years, rent prices have been escalating continuously at a rate of 15-20%. That means that the rent is unlikely to go any higher in the next subsequent years, likely dropping by a fraction of the rent rates experienced now.

Since the income for most renters has risen over the last couple of years (and will probably continue to rise in the subsequent years), there’s a likelihood that most will experience rent growth at a steady pace in the middle of 2023 after going through a brief slowdown in the rent growth.

Still, the increase in the rental income also means there is room for you, as the property owner, to raise the rent. Some of the indicators that show this is possible is the recent research by Real page, which showed that renters spent about 23% of their income on rent which is well below the affordability rate.

How Economic Changes Affect the Rate of BFR Construction

Built-for-rent construction always follows demand. Although the US is experiencing an economic slowdown, this hasn’t affected the development of housing units. Although housing prices seem to have stagnated at such a high price, that isn’t because a lack of housing drives up demand and prices, as they would typically do. On the contrary, considering there’s a 2-5 million rental unit shortage, BFR constructors still have plenty of catching up.

However, this only applies to built-for-rent houses. Built-for-sale housing is likely to plunge for most of the year.

Effects of the Economy on Renter Household Growth

The growth of rental apartments mostly stayed the same, even during the pandemic. Several factors explain why the rental estate is experiencing growth during these tough economic times.

For one, young adults leaving their parents’ homes and looking to form new households usually make their first stop at rental properties as they settle down.

Secondly, there is limited availability of new houses as they are currently beyond the reach of the average home buyer. Further, although the price of almost goods has risen across the board, incomes have largely stagnated, only growing 17.5% between 1979 and 2020.

Final Word

Although the negative economic changes signal doom for the real estate industry, the built-for-rent segment seems poised to grow in strength. Mortgage and housing prices are still out of reach for many, and incomes have stagnated, which bodes well for BFR.

To the keen eye, the benefits of investing in BFR far outweigh the potential risks, which makes it a viable investment option.

Gurpreet Singh Padda, MD, MBA, MHP

Investing in the future is the smartest thing you can do now, considering the economy contracted for two consecutive quarters, the typical textbook definition of a recession. Although, the US is still not technically in a recession, as the National Bureau of Economic Research is the only body allowed to make that call (and they haven’t, yet…), the warning signs are there.

What can’t be ignored is that the economy is contracting while productivity is declining, so it’s best to prepare for the harsh economic days ahead. Because of the unpredictable economic behavior, this article will discuss how to invest in your future so you can ride through the hard times.

1. Create an Investment Plan

The first step to building a financially secure future is to create an investment plan. With such a volatile market, you need a guiding star to help you commit to the master plan and avoid panicked decisions. An investment plan lays down a strategy after gauging all the market variables. That way, you can recognize and weigh all the risks when investing, enabling you to fulfill all your obligations still. The plan should help you realize the best investment vehicles.

The key to creating a plan is to be realistic about what you can achieve. Note that creating an entire financial strategy for the future in one sitting isn’t going to work. Instead, break down each piece into smaller steps that are manageable and achievable. Once you’ve figured out the steps, write them down, so they’re easy to refer back to when needed.

2. Diversify your Investments

As is often said, never place all your eggs in one basket. Diversifying is an excellent way to get the most out of your money, even in the most troubling economic slumps. It means spreading the investments across different asset classes so that if one class tanks, another will likely thrive. Markets you can try your hand at include:

a) Invest in REITs

Real estate investment trusts (REITs) are a great way to invest in real estate without owning any property. They’re publicly traded on stock exchanges and often pay out dividends from their rental income. In a risk-off environment such as the current one, REITs are typically the oasis of hope, and it’s easy to see why. REITs offer relative inflation protection and high dividends but bear a low correlation to the stock market and have low transaction fees.

REITs are excellent investment vehicles for the long term, typically outperforming bonds and stocks in some periods. If anything, REIT’s average yield is over 3%, more than double what you would earn from S&P 500 stocks. What’s more, REITs are liquid, so you can get your cash as soon as the market opens.

b) Home Flipping

You don’t have to own an entire rental property to reap the benefits of investing in properties. A neat trick to try is home flipping, which involves buying distressed properties at discounts, renovating them, and selling them for a profit.

c) Sandwich Lease

In this arrangement, you enter a rent-to-own agreement with a landlord, then lease it to a tenant. It’s one of the most cost-effective ways to enter into real estate, as the tenant will allow you to purchase the property after several years.

3. Concentrate on Marketing

Investing in your marketing strategy is one of the best ways to create a sustainable business. Marketing will boost sales and build your reputation, increase your relevance and demand, and cements your place among customers, creating a loyal customer base.

One of the most potent forms of marketing is digital marketing. The main way of doing this is through search engine optimization (SEO) using keywords. You target a range of words potential clients use when searching for real estate properties for Google to drive traffic to your online sites.

Digital marketing could take many forms, such as email marketing, blogging—which 56% of marketers say is effective, and social media. Posting content on social media is exceptionally effective considering 82% of Americans use social platforms.

Whichever form of marketing you settle on, you should try videos. According to Wyzowl’s research, 86% of marketers said videos helped increase traffic and generate leads, while 81% said they directly helped increase sales.

4. Automate your Savings

Automating savings is a great way to ensure you always have money available for whatever comes up. The best part is you won’t even have to think about it as it works in the background.

It’s also a great way to start investing in the future. You can set up automated transfers from checking to savings and then start saving with every dollar. It’s easy, painless, and will save you money in the long run.

To automate your savings, use an app like Acorns or Qapital. These apps allow you to set up automatic savings plans, plan, and invest without making withdrawals at specific times as traditional banks do.

5. Start Investing in Yourself

Another great way to prepare for the future is by investing in yourself. There are many ways to invest in yourself, such as:

Go to class: There are many courses available online or at local community colleges that can help you learn more about real estate and expand your knowledge in readiness for the future. Most of these courses have classes on various aspects of real estate, including how to market yourself, use social media, and manage your finances.
Subscribe to emails from industry leaders: By signing up for newsletters from real estate professionals or companies, you’ll stay up-to-date on changes in the industry and what you can do to adjust.
Listen to niche podcasts: Podcasts are another great way to learn about topics related to your industry—not just real estate. There’s a ton of valuable information on marketing, management skills, and more.

The Bottom Line – Invest in your Future, No One Else has More of an Incentive

Just because the economy is tanking doesn’t mean you must sink with it. Since business is low, now is the best time to invest in the future and realign your business so you can reap big when the market turns hot again.

Some of the best tactics you can employ include concentrating on marketing, investing in your knowledge, diversifying your investment portfolio, and automating your savings. Before you set out, you must create an investment master plan to guide you through turbulent times.

By Gurpreet Singh Padda, MD, MBA