Q2 2023: Industry Spotlight - Greg Willett
Industry Spotlight: Greg Willett
Written by Michael Becker, SPI Co-Founder & Principal, Lily Turner, Marketing Manager
Q2 2023 Newsletter
GREG WILLETT | First VP & National Director, Research Services INSTITUTIONAL PROPERTY ADVISORS
Greg Willett
is a recognized and respected industry leader currently serving as First Vice President and National Director of Research Services at Institutional Property Advisors ("IPA"), a division of Marcus & Millichap that specializes in real estate investment financing, sales, advisory, analysis, and consulting services.
As the First Vice President and National Director of Research Services at IPA, Greg applies his 25 years of extensive experience in research and analysis of the U.S. real estate market's micro- and macro-fundamentals to align institutional investors with their investment goals. Prior to joining IPA, Greg was a Chief Economist at RealPage for 22 years. Today, Willett is among the most quoted experts on economic and housing trends (ConnectCRE). Greg graduated from Western Kentucky University with a B.A. followed by a Master of Liberal Arts from Southern Methodist University. Greg is also an active member of the National Multifamily Housing Council, the Urban Land Institute, and the National Apartment Association.
On June 15th, SPI Co-founder and Principal, Michael Becker ("MB") sat down with Greg ("GW") to learn more about his background and gain some insight into his perspective on the current and near-state future of the capital markets.
MB: "What are your thoughts on the current state of the market on both a national level and relative to Texas?"
GW: "Sure. I would say that what we're seeing in the Texas markets, by and large, corresponds with what we're also seeing overall in the US ... In my opinion, I think most owners and operators are relieved to see that we got the normal seasonal bump in demand in the second quarter of this year. This past quarter, for most of the country, supply and demand were about equal, which is encouraging given how much product the market is currently delivering. People were concerned late last year as they watched demand essentially disappear and began asking 'Is it going to come back this year?' and now we can confidently see that it is.
For the Texas markets in particular, there's been solid demand reported this past quarter. Vacancy has trended upward and rests a little bit higher than we'd like it to be, but for the quarter, we're stable at least. In my review of these metrics, I observe the indication that there's been a conscious decision by most owners and operators to prioritize occupancy over rent growth; people are just trying to fill units at this point."
"There's been a conscious decision by most owners and operators to prioritize occupancy over rent growth; people are just trying to fill units at this point."
MB: "So, the second quarter of this year was about net neutral ... do you expect the third quarter to perform similarly? When do you expect supply to start outpacing demand going forward?"
GW: "Assuming that supply continues at the same pace and the market delivers around 90,000 to 100,000 units, the third quarter should also be about neutral. Based on the normal seasonal patterns, it's expected that vacancies will rise again in the fourth quarter of this year into Q1 of 2024. However, we currently have around a total of one million units under construction, so I foresee a continuation of substantial completions over the course of 2024 going into Q1 of 2024, in which supply will begin to tail off, again."
MB: "What are your expectations for rent growth for the rest of 2023 and as we go into 2024?"
GW: "Our initial prediction for this year was that positive rent growth for the US as a whole would trend around 3%. However, based on the trends that we've observed so far this year related to demand and vacancy, I think this will ultimately result in a rent growth slightly lower than forecasted. It's still a positive number, just not quite at the level we had seen in previous years.
We have recognized some places across the country where rents are actually beginning to be cut – these consist of primarily mountain and desert areas like Phoenix, Las Vegas, Boise, and Reno, and some of the more coastal markets like the San Francisco Bay area that are suffering significantly... Interestingly, the northeast markets are doing well, whereas the west coast is not as strong."
MB: "What are your thoughts on the interest rate hike pause communicated by the Fed in their June 14th meeting? What do you expect to be its impact?"
GW: "In my perspective, because we've seen some solid progress on bringing inflation down, but it's not yet quite where we want it to be, the Fed's June 14th decision to pause hikes in interest rates and signal a warning for the potential for future hikes was largely expected. For this reason, owners and operators who were previously holding off are now ready to start making moves. In my eyes, the outcome of this meeting resulted in a decrease in consumer uncertainty and an increase in confidence that we're starting to get the bigger picture of what the peak interest rate will look like going forward. As a result, I foresee more product being introduced to the market and an increase in trade activity."
"Owners and operators who were previously holding off are now ready to start making moves . . . I foresee more product being introduced to the market and an increase in trade activity."
MB: "What's your 12 to 24-month outlook on the major Texas markets?"
GW: "At the start of the year, there was an unexpected vulnerability across the rest of the US. So far this year, to our surprise, Houston has shown more strength than expected compared to the other Texas markets, particularly related to rent growth. Part of the reason for this is that while we have a lot of meaningful construction happening in Houston, it's not as aggressive as in the other markets, which gave owners and operators the confidence to push ahead on pricing.
San Antonio performed similarly to the rest of the US markets – seeing vacancy increase and rent growth slow, but I would say the trend in this market is fairly typical relative to San Antonio's historical norms. However, I do think that looking at the bigger picture as we move ahead, this market will return to outperforming like it was in the recent past.
Austin is currently the supply leader in Texas and we're seeing rent growth flatten out and vacancy rise as a result, especially in the downtown area.
Dallas Fort-Worth is still in reasonably good shape, but again, there's certainly been some cooling compared to where we had been – rent growth has slowed, but is still solidly positive and vacancy has increased, yet is still very manageable. In terms of overall performance, the DFW market came behind Houston, ahead of San Antonio and Austin, and averaged the metro norm."
MB: "Have you recognized any patterns when comparing the performance of Class A to Workforce Housing? And not just in terms of occupancy and rent, but any other operating and/or expense metrics?"
GW: "For all the Texas markets, we've certainly observed and felt the vulnerability present at the utmost top of the market in Class A products. This is due to the difficulty owners and operators have run into when attempting to push pricing when there's so much additional supply in the same property class due to the recent increase in completions. But, it's not just that top-tier segment where the rent numbers are sluggish, it's working its way through the entire product spectrum without bias. Although, one particular standout becomes evident when observing the bottom end of the market... In these neighborhoods dominated by 1980s generation products, some still not having been touched since the 1980s, you're still able to obtain pretty substantial rent growth.
In terms of additional metrics we look at to determine overall market performance, while we focus primarily on metrics like occupancy and rent, we also certainly look at expenses and have noted that they're increasing more aggressible than revenues are due to factors such as the rise in insurance costs and property taxes."
MB: "Do you have any thoughts regarding Current and Future Cap Rates?"
GW: "We've certainly seen some increase in cap rates across the spectrum, but it's been fairly modest at the top of the market. Having said this, I'll point out that because transaction volume is not at its highest, we don't have a lot of price points to base these numbers off of, so we'll really have to see what happens as more product enters the marketplace.
As we start seeing more transaction volume, in particular in the workforce housing space, it's possible that this phenomenon will be further exacerbated. But, I will say that there's a lot of capital sitting on the sidelines waiting to be deployed across the product spectrum. I think if we're going to be surprised in any way, I think the surprise would be that cap rates don't move as much as maybe we're currently anticipating."
"I think if we're going to be surprised in any way, I think the surprise would be that cap rates don't move as much as maybe we're currently anticipating."
MB: "What are your thoughts on the recent performance of suburban versus urban product? What do you predict will occur going forward?"
GW: "Suburban and urban products' recent performance numbers are pretty similar, particularly in relation to rent growth. I've already mentioned that in Austin, downtown is the spot that's clearly struggling, but in other Texas markets, and really the US as a whole, those earlier increased differences in performance that we'd seen in the early days of the Pandemic have by and large gone away and we're starting to see the urban core pick back up and move more similarly to suburban places in generally all markets besides the west coast."
MB: "What are your thoughts on Resident Retention and Renewal Increases?"
GW: "Given the general concern about being able to capture demand moving ahead, operators are certainly paying close attention to retention and renewal numbers. So far, we've seen resident churn numbers pick up slightly relative to where they had been, but in comparison to historical averages, retention is still pretty strong. This implies that renewal lease rent growth is also considerably strong both nationally and in these Texas markets without a huge difference in renewal pricing growth from one market to another. In fact, they're all about in the same range of a strong 5% to 7% rent growth on renewal leases."
MB: "Are your rent growth statistics based on new lease trade-outs? Or, is that across the board?"
GW: "So, for new leases, we're seeing more modest numbers. In my observation, owners and operators are being way more aggressive on renewal leasing pricing than they are on new leases. To me, that reflects two things: (1) retention rates when leases expire are holding up fairly well and (2) the threat that new demand is going to slow down and that it's going to become more challenging to fill vacancies as a result is evident to owners and operators and important to their current strategy. So, essentially, there's not as aggressive pricing for new residents, but there still exists some good pricing power for existing resident bases. Based on this trend, I predict an increase of 2 to 3% in rent roll revenue growth over the next twelve months. This is supported by the fact that we're not seeing a huge flight from the existing base to the new properties coming onto the market or, alternatively, losing residents to homebuying like we've seen in the past as the premium is at record levels."
MB: "Do you find resident loss to homebuying plays an important role in current and future apartment demand?"
GW: "I certainly think it's a meaningful factor, it's just hard to measure how many residents you lose to purchasing a house because these cases are anecdotal and some operators do a good job of recording this data, while others don't. In talking with some of our clients, I noticed a more significant concern about the loss of renters to purchase in Houston, but in the other markets, that trend seems to rest at levels well under historical volumes."
MB: "Do you have any additional thoughts on operations or the transaction capital markets?"
GW:"On the operations side, I think there's currently just a lot of balls in the air to juggle and a lot of trying to manage expenses that are difficult to control at this point... I mean, you're focusing on chasing new demand that you're afraid won't be there later, while simultaneously prioritizing servicing existing residents in order to keep the retention rate high. It's just a lot going on all at once and it's hard to set your priorities."
"There's currently just a lot of balls in the air to juggle . . . It's just a lot going on all at once and it's hard to set your priorities."