The 2023 real estate market faces a triple threat: inflation, high-interest rates, and an impending recession. Historically inflation and recessions are temporary but the long-term effects of higher interest rates are being felt by real estate investors and are just beginning to be understood. 

How Multifamily Performed

After two exceptional years of performance (2021-2022), multifamily rent growth began moderating in the last half of 2022, a trend that will carry into 2023 as housing demand and economic growth weaken. All eyes are on interest rates and how quickly inflation recedes. Many believe that economic growth will weaken further in the second half of the year as the impact of rapid rate hikes takes effect. 

Multifamily rent growth will be closer to historical averages in 2023. Nationally, year-over-year rent growth peaked at 16% in 2021 and then dropped to 6.4% by the end of 2022. In 2023, the year-on-year rent growth is foreseen to be about 3.1% as demand lessens and deliveries remain high. Less migration, fewer new household formations, and declining affordability are some of the factors that push demand lower.

What to expect

The number of transactions and pricing will significantly subside to increase mortgage rates and projections of slower rent growth. The rising cost of capital and the pricing uncertainty has created a gap between buyers and sellers, with investors being cautious. Multifamily remains in demand relative to many other property types and products. Property sales will be slow at the beginning of the year. 

In 2023, debt availability will be constrained. The lender will focus on lower leverage, with an emphasis on debt service coverage. The Agency lenders (Fannie Mae and Freddie Mac) will remain active, in line to maintain liquidity in the market but they have had their allocations reduced. Banks, life companies, and private equity funds all have constraints that will limit activity relative to recent years.  

So should you still be investing in 2023?

With further rate increases, sellers are trying to hold out and not have to sell if they do not have to. They are focusing on improving cash flow by improving operations.  For almost 2 years, sellers and investors made a lot of profits. The seller is looking out the rearview mirror and hoping to keep the valuations of their property strong. The reality is that sales volume has dropped dramatically in the last half of 2022 and cap rates have begun to decompress. This means that sellers must drop their prices in order for the deal to pencil out for the buyer at the current interest rates. Buyers are looking out through the window shield and still see that further interest rate increases and that must be baked into those deals.