August’s 0.1% increase in the Consumer Price Index, driven primarily by the prices of food, health care and rent, reflected another month of stubbornly high inflation. We’re in a business cycle where the Federal Reserve wants to stamp out inflation, and it has been raising interest rates—with another increase expected next week—to slow things down. Depending on how far that pendulum swings, the effect might even be to put us into a recession.
With our multifamily investments, rents equal our revenue, which is a good thing for real estate valuations. That doesn’t mean we are cheering these new inflation figures. They reflect other costs that all businesses, including ours, must address. But our business is, in a way, countercyclical. If inflation and rents remain high, that might not be good for the stock market or the bond market, but it is good for us. That’s why real estate is a hedge for inflation.
The Multifamily Market is Still Working in Our Favor
We knew that last year’s red-hot growth in average rent couldn’t continue, and we are seeing rent growth starting to slow. In an average year, rent growth is about 3%. Now, we’re watching it fall from double-digit to single-digit rates. Falling to 5% from 10% is a lot, right? But 5% rent growth is still 80% higher than the historical norm. And with housing and rentals, leases tend to be in place for at least a year. So even if average rents stopped increasing, or even started going down, those leases will remain. Housing inflation tends to be sticky. It’s not a hotel where you reprice on a nightly basis.
Longer-term housing trends also tend to outlast business cycles. Bigger picture, we have been undersupplied in terms of housing since the Great Recession. We don’t have enough rentals or for-sale products. Multifamily housing is a long-term growth asset class—that’s why we’re in this asset class and not in hotels, retail or office. Vacations and shopping are often discretionary, and technology has made working from home full-time an option. But you always need a place to live. I would argue that these long-term growth rates and the supply-demand imbalance are so viable because the only thing that affects the demand curve is the rate of population growth.
We Focus on Forecasting and Stay Agile
That doesn’t mean we are complacent. I have always said that we oversee our Funds with a risk-manager mindset. We constantly monitor multiple sources of data, and billions of data points, through our MultilyticsSM suite of machine-learning models (you can learn more about MultilyticsSM here). We use forward-looking indicators based on solid data, along with our ownership and our local presence in the markets and our experience, to make investment decisions. And we continually evaluate how market conditions affect our margins and then adjust accordingly. A few years ago, we moved away from buying assets directly and instead started lending to them and developing them. That was because of the external market, competitors and capital flow.
While we focus on multifamily real estate investing, we are very agile within that sphere. And we are vigilant about monitoring the external environment to make the best choices with our capital. This most recent report is new information, but it’s part of a larger situation. The August CPI report, or the more recent—and positive—Producer Price Index report—inform our investment thesis, but they don’t dictate it. And they shouldn’t dictate yours.