03/01/2021 | News release | Distributed by Public on 03/01/2021 14:34
By Jay Parsons, Greg Willett and David Polewchak
Over the past few decades, the 'flight to quality' was a go-to strategy for many apartment investors.
The theory is simple: When tough times hit, renters will flock to high-quality assets in high-quality locations. Investors typically define 'high quality' as Class A assets in more dense, urban locations. The strategy generally worked in past downturns to varying degrees.
But in 2020-2021? Not so much. The world has changed - and not just due to COVID-19 peeling away some appeal for urban living. Developers over the last cycle flooded the market with very high-end, very expensive new apartments generally concentrated in urban submarkets.
Today's Class A properties are materially more expensive - widening the gap between Class A and Class B. The new math makes it significantly challenging to lure Class B, and instead creates an environment where high-quality assets are cannibalizing one another for renters.
How can operators and investors adjust to the new realities of 2021 - and the new math that alters the long-time investment premise?
In the mid-2000s leading up to the Great Financial Crisis, a typical Class A apartment nationally was about $300 more expensive per month than a Class B unit. That fairly manageable gap allowed property managers to lure some Class B renters up to higher-end properties with rent cuts and concessions.
But that price gap surged over the following decade.
By the time COVID-19 hit in 1Q 2020, an average Class A apartment cost $500 more per month than a Class B unit. That gap is almost impossible to overcome with any reasonable rent cut or discount. But that hasn't stopped property managers from trying. The gap shrunk to $400 by year-end 2020, but with little benefit to occupancy - suggesting few move-ups. Fundamentals remain much stronger in Class B versus Class A.
In concession terms, a $400 gap amounts to a four-month concession. We're only hearing of discounts at such levels in limited cases - which may buy some short-term occupancy but will almost surely backfire and damage rent rolls longer term.
With the old-school playbook now off the table, what options are left? Here are strategies to consider.
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