Multifamily Minute Reader Reflections: Where Are Cap Rates Headed?
Our survey of 40,000 multifamily investors asked how capitalization rates for apartment buildings are likely to change in 2023.
Start Your Application and Unlock the Power of Choice$5.6M offered by a Bank$1.2M offered by a Bank$2M offered by an Agency$1.4M offered by a Credit UnionClick Here to Get Quotes!In last week’s Multifamily Minute, our weekly newsletter, we asked our readers an important question about cap rates. Where are they going in 2023?
There’s been a lot of talk that with interest rates rising so, too, will cap rates. Probably. Maybe.
Before we get into the results, throw your email into the subscription form below, and you can add your voice in our future surveys — not to mention get the latest in multifamily insights across the industry, every week on Tuesday.
Now that that’s done, let’s talk about the results. Of our respondents, 62% said that cap rates will likely increase next year — either significantly or by at least a little. Check out the table below for the full results.
Cap Rates Will … | Percent of Respondents |
|---|---|
Increase significantly. | 16% |
Increase a little. | 46% |
Stay the same. | 10% |
Decrease a little. | 20% |
Decrease significantly. | 2% |
I don't know. | 6% |
I don’t think the majority’s voice is too surprising. If you look at how cap rates were reported in the first half of 2022 — as low as 3% in a select number of markets, according to CBRE’s cap rate survey — there isn’t an awful lot of room for further compression. I mean, compare that with the current yield on a 10-year Treasury (as of today, 3.44%).
Even so, not all of our readers feel that cap rates will jump up in tandem with interest rates. A surprising one-fifth said that cap rates may decrease a little bit. Another 2% said they could even decrease significantly.
Related Questions
What are the current trends in multifamily cap rates?
According to our survey from mid-December, multifamily cap rates are expected to remain relatively stable in 2023. However, industry experts have noted that the higher cost of debt capital, tighter underwriting, and buyers pulling out of deals could impact the market. Read our analysis of the results here.
At the same time, sellers who don’t want to trade at a lower price are also taking their properties off the market. According to Multi-Housing News, stabilized properties will continue to trade, however, whether deals materialize will depend on the investors’ strategies. Transitional assets, those with value-add opportunities could also withstand market volatility if investment strategies are executed right.
Overall, both investors and lenders will likely flock toward multifamily assets during this uncertain period in search of stability, as other asset classes, such as office, retail or hotels are still highly unpredictable in terms of demand.
What factors are influencing multifamily cap rates?
The cost of capital is a major factor influencing multifamily cap rates. As borrowing becomes more expensive, this will necessarily impact property values, and if a property’s value decreases with all other factors held the same — rents, operational costs, and so on — the cap rate will increase for that investment. Source
What are the benefits of investing in multifamily properties?
Investing in multifamily properties can provide a number of benefits, including reliable monthly cash flow from renters, potential for high investment returns, and the ability to take advantage of compounding returns. Additionally, multifamily properties are relatively low risk, and can help you diversify your investment portfolio.
For example, if you buy an apartment complex for $1 million, you may only need to shell out about $200,000 with a great loan. You could then sell it five years later for $1.2 million, resulting in a great return of $400,000.
Using your proceeds, you could invest again in two multifamily properties at similar amounts, and if that appreciates in a similar way, you could walk away with $800,000 after a conservative gain on a sale.
The earlier you start investing in multifamily, the more wealth you’ll have in the long run due to the power of compounding returns.
What are the risks associated with investing in multifamily properties?
The risks associated with investing in multifamily properties include expensive purchase costs, rising construction costs, construction delays, and the possibility that the renovation work may not be enough to get the desired investment outcome.
Buying multifamily properties is significantly more expensive than buying single-family homes, therefore, it is usually hard to enter the market as a first-time real estate investor. While banks are usually eager to provide loans, buyers should be able to come with around a 20% downpayment, depending on the real estate market or the size of the property. Source
Construction costs have risen dramatically over the past few years, impacting both ground-up development projects and renovation work. Supply chain issues can also lead to construction delays. Source
Finally, your renovation work may simply not be enough to get the investment outcome you’re looking for. You may invest a lot of capital to add the highest-end luxury amenities to a property built in the 1980s — but if potential renters are looking for a newer building, you may not see much of an uptick in occupancy or rental revenue. Source
What strategies can investors use to maximize returns on multifamily investments?
Investors can maximize returns on multifamily investments by improving their ROI. This can be done by increasing rent, finding ways to save on expenses, and boosting resident retention. Additionally, investors can use the buy and hold strategy, which involves buying an investment property and holding onto it for an extended period of time, usually five to 10 years or longer. This allows investors to build equity in the property and eventually sell it for a profit. Other exit strategies include flipping, refinancing, and 1031 exchanges.
For more information, please see the following resources:
What are the best markets for multifamily investments?
The best markets for multifamily investments in 2019 are:
- Dallas, TX
- Atlanta, GA
- Orlando, FL
- Phoenix, AZ
- Raleigh, NC
- Charlotte, NC
For more information, check out this article from Multifamily.Loans. Additionally, you can check out our 2022 ranking of the top multifamily markets for investments.
If you're planning an apartment building acquisition, we can match you with the best lenders to get you the best loan terms out there — whether your best option is a Fannie Mae Small Loan, a traditional bank loan, or anything in between. Fill in the form on Multifamily.Loans, and we’ll get back to you with quotes at no cost.