Front & Center Podcast: Episode 84 – Rental Housing Reality Check

00;00;19;26 – 00;00;26;08
Uma Moriarity
Welcome back to Front and Center. I’m Uma Moriarty, senior investment strategist and global head of sustainability here at Center Square. We have spent a lot of time this year really thinking about the multifamily sector, and in large part because we’ve seen not only a supply glut come through the market, but we have also seen impacts on demand, impacts on debt costs and rising regulatory scrutiny within the asset class.

00;00;26;09 – 00;00;43;13
Uma Moriarity
And at the same time, we haven’t really seen pricing adjust to reflect all of those things. And so we’ve spent a lot of time here at Center Square trying to figure out why that might be and where it then results in the best opportunities, as well as really highlighting where we might see some of these risks coming through.

00;00;43;16 – 00;01;09;00
Uma Moriarity
To help unpack that, today I have with me are Co-CIO Rob, and I’m excited to get into the topic today. Thanks for joining us, Rob.

00;01;09;01- 00;01;11;00
Rob Holuba
Thank you for having me. I appreciate it. And like you said, it’s something that we rack our brains with often.

00;01;11;01- 00;01;25;29
Uma Moriarity
Yes, absolutely. So maybe just let’s get into it. Within the rental housing space, like I mentioned, we’ve really seen the sector coming off of peak pricing. And at the same time we’ve seen fundamentals being impacted. We’re seeing this impact from the regulatory perspective, but we’re really still seeing pricing and kind of the low 5% range, sometimes even some 5% range as it relates to cap rates in the transaction market. What’s happening here? Where do you think the market is maybe missing what’s happening as it relates to fundamentals?

00;01;26;00 – 00;02;17;12
Rob Holuba
Yeah. Look, I think first and foremost let’s just establish the transaction volume data. And the reality is is that transaction volume data is down. So although there may be some sample sets of cap rates that are trading in the low five caps or in some cases below five caps, I don’t think it’s representative of everybody and what they’re paying for multifamily. I think in most cases, a lot of the institutions, ourselves included, are very cautious, generally sitting on the sidelines, not deploying as much capital as they have. And I think the stats that I was reading is that the transaction volume for the first half of 2026 is down about 40% from the five year running average. And so although there are some prints that make us all kind of shake our heads and say, what’s going on? Are we missing something? I don’t think that’s representative of what everybody is paying for rental housing today.

00;02;17;13 – 00;03;12;09
Uma Moriarity
That’s fair. But then the other side of things where I think is a little bit new this year and maybe even the last two years compared to what we’ve been thinking about in terms of rental housing, is really what’s happening from a perspective of regulatory risk within the sector. We’ve seen just a lot of bipartisan rhetoric, right. It’s not really one side or the other. It seems to be that affordability is becoming this bipartisan issue. We’re seeing heightened risk from the regulatory standpoint here. And it doesn’t seem like it’s being priced in at all.

00;03;12;10- 00;04;47;13
Rob Holuba
Yeah. Well, we’re definitely going to be piling on here because I think, you know, multifamily and rental housing in general. Not only do they have a supply issue. They also have a demographic issue in whether it be restriction on immigration, whether it be people living at home longer. So we’re starting to see a decline in in the demand side. But when you add in the additional risk of regulatory risk, I think it’s a huge issue that will continue to grow over time. I think that right now you’re beginning to hear the beginnings of the cry politically in regards to affordability. And so whether that be New York City’s recent announcement or California, Massachusetts, Saint Paul, Minnesota, there’s a number of markets that have put rent control and affordability at the top of their list of priorities. I think that just continues to grow. The longer that the United States does not do anything politically in regards to or policy wise in regards to helping, affordability of housing is just going to become a louder issue. And so whether you want to take, you know, the midterm elections is probably a little bit too early to kind of hear the roar. But I think by 2028 presidential elections, it’ll be louder by 2030. Midterms. After that, it’s going to be even louder. And I think this is a massive growing risk within rental housing that is really not priced in to anybody’s future underwriting, because it’s no way to predict it. And that type of instability or, lack of predictability causes valuations go down.

00;04;47;14- 00;05;26;01
Uma Moriarity
Yeah. And what I think is really interesting is that in the last couple of years, as we’ve seen fundamentals deteriorating, it’s really come off of really peak pricing right when we were coming right off of Covid. Debt costs were essentially zero. You saw cap rates compressing pretty meaningfully on the back of that have had fundamentals really deteriorate. Plus you’ve had to have cap rates expand. All of that together has created a little bit of I don’t want to call it PTSD, but a little bit of a headache from the perspective of institutional investors. How do you think the last couple of years, their experience in terms of investing in multifamily might shape the way that institutional investors think about the property type going forward?

00;05;26;02- 00;07;18;10
Rob Holuba
And that’s probably the the best question that’s out there. And it’s something that we struggle with at Center Square, where we’re thinking about our asset allocation amongst the asset classes. And I can’t help but think that we need to reevaluate the, I’m going to call it the 30 to 40% of our dollars allocated to commercial real estate are going to rental housing. I think we need to look long and hard at that. I think we need to be intellectually honest about the asset class. I think we have to challenge some of the age old assumptions that we’re in there, which is this is a great asset class that has all these secular tailwinds, and therefore it’s going to benefit, you know, over the long term. You hear the concept of food, water, shelter, the three things we need for survival make sense. The reality is, is that I think that the asset class is way more risky today, given competition, given supply, given some of the demand challenges that we see. In addition to something that I’ve been watching recently is just the management intensity of the asset class. So all of that said, I think my my two major macro themes on rental housing is that as it pertains to rental housing, they use concepts of like survive to 25 to 26. When it comes to rental housing, I think it’s a grind to 29. I think that we are still several, several years away of seeing positive fundamentals in the sector and some kind of relief on pricing. You’re going to need a combination of the two in order to make it an attractive investment asset class again. The second is, is that most investors are going to re examine their 30 to 40% allocation towards rental housing because it’s just not what it once was.

00;07;18;11 – 00;07;34;17
Uma Moriarity
Yeah, absolutely. So I guess given all of that that you mentioned, where do you see today? Maybe the best risk adjusted opportunity to deploy capital within the rental housing. Because we are we are still deploying capital, but it just happens to be in a slightly different risk return spectrum and opportunities that today.

00;07;34;18 – 00;07;34;17
Rob Holuba
Yeah. And I want to make sure that this doesn’t tip toe the boundaries boundaries of of pitching our book. I just want to share some observations. But I would say that over the last five years, I generally feel pretty whipsawed about rental housing investments. We were boxed out in 21 and 22 because cap rates got to levels that we just weren’t willing to pay, so we couldn’t buy any multifamily in 21 and 22, in 23 and 24 and 25. We’ve really just been dealing with the supply glut of just watching fundamentals kind of occupancies go down and concessions go up and net effect of rents go down. And so it’s been hard environment to make investments in. And then when you factor in the pricing. So I just feel like we’re all a little bit all over the place just waiting for this relief. I’ve had the opportunity to spend time with Greg Stephens, Jeff Turkel. They run our rental housing platform here at CenterSquare, and I’ve been able to see some of the investments that they’ve done. And I and I finally came back and I said, oh my gosh, this actually feels like an attractive risk adjusted return for me. So let me let me explain what they’re doing. So, we call it GAAP capital, but effectively it’s preferred equity. Typically it’s a debt like preferred equity above a Freddy Mac loan. It’s always on new construction, newly delivered, stabilized rental housing. So that all generally makes sense, right? Is capitalizing on on some of the new construction where they needed they need take out dollars for their construction loan. The the three things that I keep walking away from. And I was just in Tallahassee last week with Jeff Turkel touring some of the properties that they’ve been making investments on. And I come back jazz because there’s three elements to it. Number one, these are class A properties. They’ve got state of the art amenities. They’ve just recently been built there 96% occupied. And they’re just great. Number two, the locations we’re talking, you know, Williamsburg, Brooklyn, Rittenhouse Square and Philadelphia at the doorstep to Florida State’s football stadium on campus at in Tallahassee. I mean, it’s an unbelievable location. So these are just great pieces of dirt. And lastly, the operators or the borrowers of of who we’re financing, these are best in class operators. These guys know their business. They know their assets. And so I just feel really comfortable about our entry point going in at like mid 6.5% debt yields on our last dollar basis with high quality real estate, good markets with best in class sponsorships to generate mid-teens IRR. It feels a price for the risk that we’re taking. So that’s generally what we’ve been doing. I don’t think it’s a I don’t think it’s $1 billion a year opportunity. I think those guys throw out 100 deals for every one that they do. But you got to be really selective. You got to be rifle shooting because you’re going to pass on most of the opportunities and do the few that you like.

00;10;31;26 – 00;11;12;21
Uma Moriarity
Rob, you’ve talked about a lot of maybe the shorter term issues that we might be facing within the multifamily sector. But I think one of the things that people keep on coming back to is the fact that there is this structural demand driver for multifamily. And if I think about the bigger picture concept of the fact that homeownership is just becoming increasingly, increasingly more unaffordable, it means that we’re just creating renters for longer in this country. And it seems to be a theme that we see really around the world. But why is that structural, long term driver not enough to maybe justify, in your eyes, taking the equity risk in some of these opportunities today?

00;11;12;22 – 00;12;40;00
Rob Holuba
Well, I think, you know, on the one hand, you’re capturing one concept of the equation, which is really demand coming, you know, being renters for longer. It’s missing some of the other factors that play into it, like supply, regulatory risk, those types of things. I think two things. Number one is the housing affordability. Homeownership affordability in this country is a major problem. And we really, as a government haven’t done anything to fix it. Therefore, I think that society will take ways to fix it themselves. And you’re starting to see that in some of the behavioral trends of the younger generations, which is they’re living at home longer because they’re saving up money. They’re not renting necessarily. They’re staying at home where they can save more money. They’re prolonging marriage. They’re prolonging childbirth. They’re having fewer children because they just can’t afford all of the costs of everything. Today, it’s not even just homeownership. It’s it’s everything, including rents. And number two is I do think you’re starting to see also just the resistance of renters to pay higher rents. Sure. I think that people are savvy enough to ship to print the higher market rents. But when you actually look at the net effect of rents, when you factor in the very sticky concessions that we continue to see, they’re saying no more in regards to rent increases, regardless of whether or not home prices are affordable or not.

00;12;40;01 – 00;14;07;08
Uma Moriarity
Yeah, absolutely. And one of the things that I want to maybe double click on. You mentioned earlier this very operationally intensive model that we’re seeing as part of multifamily. I think it’s becoming, to your point, something that you have to provide as a landlord to be able to justify the cost associated with some of these class A multifamily rents. You’re seeing lots of different tenant events and things like that. So it’s just become this really operationally intensive model. And we talked a lot about the fact that cap rate compression in this cycle is just not going to derive returns for investors, because we are seeing cap rates essentially going the other way. So you have to be somebody with operational expertise, roll your sleeves up and drive value at the actual asset level. Where do you think this kind of operationally intensive model leaves multifamily, maybe compared to some of the other asset classes?

00;13;30;08 – 00;15;37;20
Rob Holuba
Yeah. Well, I have a little bit of a chip on my shoulder because as my other part of my job is portfolio managing our essential service retail portfolio, which is about 100 shopping centers. It’s all in anchored strip. It’s all small, small bay tenants. And I always get questions about the management intensity of running a bunch of smaller commercial real estate properties. And isn’t that really management intensive with all of those small tenants? So I say, yeah, it is. But I was recently on the road and I was touring some of our apartment investments, and I’m listening to the operator talk about the story and, and the value proposition of this apartment building. And he starts to explain to me all of the different things that they do on an annual basis. And he was saying that they run over 50 tenant events per year as a huge differentiator of creating culture and an atmosphere to attract tenants to not only come to the property, but also to renew at the property. And he said that this is a prerequisite in every market, at every property that they own, that they have to run these types of, community events. And so I’m thinking to myself, I’m like, wow, 50 different nights that you’re going to have to pay staffers to work in the evenings for, whether it be trivia night, whether it be beer and dog park or whatever it is that they’re doing. Like, you have to pay people, you have to coordinate it. You have to keep the facilities open. You have to hire security to make sure, like nothing goes on. And that’s really management intensive. This is becoming hospitality in a sense. And I just think that because of the inflated levels of competition, you have to differentiate yourself in different ways. And it just kind of leads to the complexity of of the overall asset class, which is again, why I go back and I question to ourselves what allocation do we want to be making to rental housing going forward, because it’s not what it once was cracked up to be. It’s heavily competitive with new supply. There’s some challenges on the demographic side. And then you layer in some of these management complexities. It’s tough and you get paid for it.

00;15;37;21 – 00;16;16;14
Uma Moriarity
Yeah. And I think the reason we’re seeing so many more events and some of this kind of cultural building is because, as you mentioned, there is a ton of pressure to renew your tenants because you look out the window and there are five different apartment buildings that are coming up that they could go into. And you have the supply that’s coming in. And I think at the core of it is that real estate is a capital cyclical business. You see demand supply comes in to meet it and you see the cycle over and over again. Are there certain markets where you think that demand will actually catch up to an exceed supply in the coming years? Where where do you think the cycle kind of breaks and where what markets do you think will will kind of rise at at the beginning of the news cycle?

00;16;16;15 – 00;17;36;14
Rob Holuba
Yeah, I think the era of secular investing is over. And so what I mean by that is I don’t think you can just pick an asset class and say, I’m going to invest in rental housing and it all does the exact same. And I think that same kind of like asset class selection, you can’t applies to markets as well. And so you can’t just say like oh, you know what. In 2029 all the markets will be better, all the supply will have burned off and rent will be growing everywhere. No way. It’s all going to happen at different times. And so like what we like to do on our real estate cycle, which is like a clock, and we put the different asset classes depending on where they’re at from a fundamentals and pricing perspective, you could do the same with markets. And so like if you took like a San Francisco today, well that’s definitely on the upswing. You’ll have improving fundamentals. You’ll have improving pricing. And and it’ll start to make sense. You’ll you’ll start to see maybe the Midwest bottoming and starting to move out of that as it retains like the Nashville’s the Austin’s. You know, I think you’re still pretty far away from a recovery in those markets, and it’ll take time. So I think this next cycle of real estate investing is going to be much more nuanced. And you can’t just take broad strokes and say that in 2029, everything’s back back to being being investable.

00;17;36;15 – 00;18;04;02
Uma Moriarity
At low interest rates. And cap rate compression is not going to hide all of the other mistakes. I think that had been made in prior cycles that you kind of got got away with. Okay, so maybe to wrap up, if we were to look out 18 to 24 months. What would you need to see whether it’s recovery and rents or reducing supply or a completely different demand picture in order to think, okay, maybe it’s it’s now time to start taking equity risk again in multifamily.

00;18;04;03 – 00;19;37;09
Rob Holuba
Yeah. I think, number one, you have to be intellectually honest. So let’s let just start there and just not everything goes up into the right. And so let’s just evaluate each market, each investment opportunity individually. What doesn’t work is paying low cap rates, negative financial leverage with no growth. And that’s where we’re at today, which is five caps with no sign of any kind of NOI or rent increase. In the near term, you’re going to need to see a combination of the two of those. And so you’re going to have to have some relief on pricing, where you’re going to see cap rates adjust to more normalized spread over borrowing costs, which is historically what they’ve always have been, which is positive leverage. And then number two is you’re going to have to see improving fundamentals, which will happen at different times for different markets. But the one thing that we keep looking at, and we even see it across our portfolio, is the sticky concessions. You’re not going to have any growth if you continue to run, you know, renewals at two months free. You’re going to have to see that burn off, which we have just not been able to see many operators burn off concessions even when they’ve stabilized occupancy. That’s just, to me, the telltale sign that market rents, you may print market rents, but the net effect of rent actually is where market should be. And so it’ll be a combination of the two of those. And I think different markets, different cities will will hit those time periods at different stages. But you want to be able to see NOI-I growth on top of positive financial leverage.

00;19;37;10 – 00;20;28;05
Uma Moriarity
Yeah. And that seems like something that might be further out in the future than a lot of people are anticipating are currently underwriting for. But it’s it’s great that we have the ability to think about this, both from the perspectives of seeing real time pricing in the public markets, understanding where maybe that future is being priced into the public markets, and then simultaneously being able to see what’s happening on the ground and understanding that we are still seeing really sticky concessions that’s not going away. I think the combination of of those two things will be a great barometer as we think about how to maybe adjust the way we’re deploying capital within the within the property type. But I think this has been a really great conversation. Like, we like to say, intellectually honest about where the fundamentals and the reality is in terms of the multifamily sector today. And thank you to all of you for tuning in. We will be back in two weeks with the next episode of Front and Center.