Multifamily commercial real estate is a great investment, but how does it perform during a recession? Discover why multifamily remains a strong investment in times of economic volatility, 4 rules for strong returns in good times and bad, plus what NOT to do with a multifamily investment during a recession.
Multifamily Performance During a Recession
Economic recession usually involves a shrinking economy, job layoffs, housing market declines and sluggish or even declining stock markets. So how does this effect multifamily investment properties? To answer this question we can look at the most recent data from the 2008 financial crisis and the great recession that came with it. Every multifamily property I invested in between 2008 and 2012 doubled in value during the recession, so I would argue that they perform quite well.
Why Multifamily Remains Strong in a Recession
There are many reasons why multifamily investments continue to perform during recessions. Here are the top three:
- Demand Increases: Demand for apartments grows during a recession primarily because people stop purchasing their own homes during times of economic hardship. Everyone needs a home, but if they cannot purchase a house, they will need a place to live, and an apartment tends to be the most affordable option. As an investor, this created a situation where I was able to increase rents three times over a 16-month period in 2008-2009.
- Rental Incomes Increase: The US already has an affordable housing crisis, and the current economic trends will only apply more pressure to it. As recession looms, demand for multifamily increases, and more demand on multifamily means the supply will dry up, and with it increased rents. This is simply the economics of supply and demand. As demand rises, the supply is squeezed, and when multifamily housing supply is squeezed, rents increase, and all of this happens during a recession.
- Increased Investment: When the economy is in decline, investors, banks, and other money managers look for investments with lower risks, and so they often move capital where investments are safe and strong. During the 2008 great recession we saw this, as investment money poured into multifamily commercial real estate. And we are seeing the same thing again in 2023. In fact, as I type, interest rates for loans of multifamily commercial are lower than for buying a home. With money pouring into multifamily investments, the asset class is strengthened.
4 Keys to a Strong Multifamily Return During a Recession
Here are 4 rules you need to apply for a strong performance from your multifamily investment whether in good times or bad.
1. Maintain Your Financial Reserves
No matter what the economic conditions are, you always need to plan for bad times. Every investor needs to set aside some cash in a separate account to deal with unexpected crises. So, the natural question is how much cash should be in reserve? My experience is that you start building cash reserves with the goal of setting aside 5% of your gross rental income for emergencies. Once you get there, you can build up that fund so that you can have at least six months of debt coverage for each property you own.
2. Long Term Fixed Rate Financing is Key
If you want an investment property to perform well, your goal should be a long-term fixed rate loan. For a multifamily property it means not having to refinance during economic downturns or when interest rates rise. And it also means your cash flow will not change but stays consistent. Together cash flow and fixed rate loans are a hedge against inflation. No matter how high inflation goes, and no matter how much they raise interest rates, having a long-term fixed rate loan means your debt service will not change, so as rents increase, so does your cash flow.
3. Your Property Manager Must Be Managed
Property managers are important when you are dealing with multiple residential investments, but they need to be managed. You pay them to do a job, and that job is to manage the property in a way that is profitable. If you treat your property manager like a friend you will let them get away with all sorts of things that will hurt your bottom line. Unmanaged property managers tend to be late on reports, late on collecting, slack on taking care of the properties, and not keep up with evictions. Bad property management means properties that perform badly, and bad performance means negative cash flow. In other words, there is no room for property mismanagement especially in a recession. If your multifamily property is not performing well, consider a new property manager.
4. Keep Track of Your Numbers
You need to know your multifamily numbers like the back of your hand. Who cares more for your properties than you do? No one. Not your property manager, your accountant, your attorney, or your friends. You have to be the one to keep track of your numbers because the margin of error can be very small during a recession. So you need to know how to manage your money, manage your property manager, manage your marketing, and the maintence of your property. These four things are like the legs on a stool; remove one during a downturn and everything else will fall over. So, you have to keep track of your numbers, and know them like the back of your hand.
3 Things You Should NEVER Do With a Multifamily Investment During a Recession!
1. Don’t Wait for A Price Drop that May Never Come
Investment always means taking risks, but waiting for multifamily price drops during an economic downturn is a risk you cannot afford. The drop simply may never come. During the pandemic, many investors decided to wait, and listened to the forecasts that said multifamily commercial would be destroyed. But they were dead wrong. In fact, even with the eviction moratorium prices increased. It was a mistake for investors to have waited for a dip. It never came. In fact demand rose and continues to rise dramatically, so that the supply is tight, and waiting to get into multifamily when the price dropped meant not getting in at all and missing a great investment opportunity.
2. Don’t Wait for Interest Rates to Drop
Another investment mistake is to wait for interest rates to come down before jumping in. This is a fools errand and there are reasons: for one, the rates may not come down, as we have seen and for two even if they come down by 1-2% sitting on the sidelines waiting means missed cash flow, tax benefits, and equity growth. So don’t wait for lower interest rates.
3. Don’t Wait For The Recession to End
Waiting for the recession to end before investing is a huge mistake. For one, no one has a crystal ball telling them when it will end. Predicting the end is impossible. In fact, we are bad at predicting all sorts of things, like interest rate drops and housing price dips. The same is true of economic downturns. And even if you could predict the end of the recession, multifamily commercial investing doesn’t care because this is a long term investment either way. Your investment timeline for multifamily isn’t one year but 5 or more. You aren’t creating quick wealth, but great wealth, and to do this you are in it for the long haul.
Multifamily real estate investing is the kind of investing that can change your life completely, but it takes time no matter what the economic outlook is. In other words, don’t wait to invest. There is a saying that goes something like this: “the best time to plant a tree was 10 years ago, but the next best time is now.” The same is true for multifamily commercial real estate investing.
