In this article

The multifamily and commercial real estate crash is in full swing. As much as $2.7 trillion in wealth has been wiped out with a historic surge in cap rates and plummeting asset values in the commercial real estate world, with multifamily and office leading the charge with estimated 30% and 35% peak-to-trough declines in asset value and even larger percentage declines in equity value.

I wrote about some of these risks in my thesis, Multifamily Real Estate Is at Risk of Crashing—Here’s Why, including a discussion about stagnating and falling rents in many metros, an onslaught of supply, interest rates steadily rising throughout the year, and expenses growing out of control. 

In 2023 alone, values declined by as much as 20% on average.

Unfortunately, I don’t think 2024 is going to be much more fun for current owners of multifamily and commercial real estate. There’s still a lot of room for this bear market to run and little reason to believe in income growth or valuation growth in U.S. multifamily at the national level. 

In this article, I’ll walk through my updated thesis for 2024, outlining the continued threats to multifamily valuations. Be warned: I think the outlook is just as ugly as last year, and the pain for investors and operators will continue until supply abates, perhaps sometime in late 2024, but more likely in 2025.

As always, this is a complicated subject. I am an amateur in this space. I could be (and indeed, I hope I am) completely wrong or off base. I invite you to tell me what I’m missing in the comments, email me at [email protected], write a rebuttal to this piece, or discuss a rebuttal/bull case for multifamily on a podcast or video. 

Part 1: It Just Doesn’t Make Sense to Buy Apartment Complexes at Current Valuations

Part 2: The Outlook for Rent Growth Is Poor in 2024

Part 3: Expenses Eat Into Multifamily Profit

Part 4: Interest Rates Will Not Come to the Rescue 

Part 1: It Just Doesn’t Make Sense to Buy Apartment Complexes at Current Valuations 

There are a lot of reasons people buy single-family homes: generational wealth, a place to make family memories, living out a life vision/dream, taking advantage of great schools, etc. 

Meanwhile, there is only one reason investors buy multifamily apartment complexes: the income stream.

That’s it. It’s the only reason I’m investing in multifamily. I want that cash flow. 

Fundamentally, investors expect real estate to generate rents, which grow in excess of expenses, and for the property to put an ever larger future income stream, a safer income stream, or just a different income stream into their pockets than viable alternatives. They have to believe and expect this, and they have to believe and expect that, at some point in the future, another investor will believe in that growth story as well and buy the property from them.

Right now, average prime multifamily real estate is trading at about a 5.06% cap rate. 

A rough translation of the previous sentence is that right now, if I want to buy a quality multifamily property, for every $1 million I invest, I will receive $50,000 in annual cash flow (assuming no debt). 

Now, I understand that debt service, tax benefits, CapEx, and other items challenge this statement and that it’s a huge oversimplification. Gurus who teach multifamily investing and analysis are already lining up to beat me up, but I’m sticking with it. At the core of it all, this is what a Cap Rate is attempting to get at. 

Remember: Cap rates and interest rates are highly correlated. Capitalization rates are a method of valuing commercial real estate and comparing assets. Dividing the property’s net operating income by market capitalization rates gives investors a way to value real estate assets or, more precisely, to value their income streams. 

Cap rates are not a method of calculating returns. And investors can make money in environments with low cap rates, as well as those with high cap rates.

However, when cap rates are lower than interest rates, investors have to be all-in on appreciation, lower interest rates, rising rents, or falling costs. It’s just hard to make money in a “negative leverage” scenario where you buy an asset with a net operating income (NOI) of 5% of the purchase price but have debt at 6.5% interest.

The core issue with present-day cap rates is that there are a lot of ways to generate a greater than 5% cash-on-cash ROI in 2024, including:

• 1-month U.S. Treasuries (trading at 5.5% yield)
• Savings accounts (up to 5.35% APY).
• Residential mortgages:
  • Literally, one can lend to people with credit scores of 800, earning $200,000-plus per year, a 30-year mortgage, at 6.5% interest or more, backed by the borrower’s full net worth and a single-family real estate asset. That’s a safe investment with a compelling yield.
  • Investors can also get exposure to mortgages by buying mortgage REITs that offer a ladder of potential yields.
• Commercial debt: One can lend to the borrower buying an apartment complex in the 6.5% to 8% simple interest range at conservative LTVs.
• Hard money or bridge debt
• Single-family rentals
• Private businesses

The list goes on. It’s so easy in 2024 to earn a 5% yield. And that is the fundamental problem for the current owners of commercial real estate, including those who own apartment complexes.

A common argument for why apartment valuations won’t crater this year is that private equity firms like Blackstone have a ton of cash piled up and are waiting for a crash. This could be significant—Globest claims that some estimate that $200-$300B is sitting on the sidelines waiting for prices to fall, but does not provide a link to the source of this massive estimate. 

However, a rational investor simply won’t deploy their cash, no matter how much they have hoarded, into an apartment complex that yields less than the easy, low-risk laundry list of alternatives I presented—unlevered, unless they believe strongly in growth. 

I wouldn’t. You wouldn’t. And Blackstone won’t. Belief in growth is a must in order to buy a riskier, more volatile income stream than the alternatives presently available.

For me to take a 5% cash flow return on my money in an apartment complex right now, especially if I’m using a 6.5% interest Freddie Mac loan to finance the purchase, I have to believe some combination of the following:

• Rents will grow.
• Expenses will fall.
• Interest rates will fall.
• Cap rates will fall.

I just don’t believe any one of those things, much less any combination of them, in 2024. And, while my personal opinion matters very little, for the reasons I will discuss at length in this article, I think that rational investors will be forced to agree with my lack of faith. 

There’s just little reason to be confident about anything working in favor of multifamily valuations in 2024, based on what we know today.

And these reasons don’t care that 2022 and 2023 were already painful for multifamily investors, or that hundreds of billions of dollars have already been wiped out, or that cap rates for prime multifamily have already increased from the mid-3% range to over 5%. 

No buyers of multifamily care about that pain over the last few years. They only care about the current and future income stream of a multifamily property. And the story of future cash flows in multifamily is not a compelling one. 

I believe that the brutal lesson many investors will learn in 2024 is that just because multifamily property values have declined by as much as 30% from peak (on average) does not mean that they now all of a sudden are on sale, and they absolutely can fall much further. The run-up in valuations through 2021 was incredible for this asset class, and the give-back in 2023 and 2024 could be even more historic.

Part 2: The Outlook for Rent Growth Is Poor in 2024

New supply puts downward pressure on rent growth

I’m scratching my head. It’s the beginning of 2024, and we have nearly 1.2 million multifamily units currently under construction, with 500,000 deliveries expected in year 2024—the most ever. I said the same thing last year, and I am as surprised as you to be repeating myself with even more in-progress inventory in Q1 2024 than in Q1 2023.

The only word I have for this mass of supply is an onslaught. And it keeps coming. We are in a housing construction boom in this country that is accelerating despite the macro environment conditions that threaten real estate valuations.

This supply will continue compounding problems for the owners of existing multifamily in the form of limiting rent growth, forcing concessions, and creating inventory on the buy side for investors to sort through and pick from at their leisure. 

This inventory has to rent, and it will. It will set the top of the market and push everyone else down, as developers will do whatever they can to fill the inventory as quickly as possible, hitting Class A property owners hardest, but also with downstream impacts to Class B and C properties. Developers use expensive bridge debt financing, similar in cost to hard money debt. The high interest rates and short-term nature of bridge debt are a powerful incentive to finish construction quickly, get the place rented, and sell or refinance to less expensive debt.

In 2024, we have a very real risk of seeing rents decline in many markets and for the nation as a whole. I wonder if we will see certain markets see double-digit rent declines. The impacts will be highly regional, as always. I think there is a big target on prominent markets in Texas, Florida, North Carolina, Denver, and Phoenix, in particular, where a disproportionate amount of supply is being built on the backs of big (perhaps too big?) jobs, income, and inbound migration expectations.

The hardest hit markets are the ones with the most supply coming online as a percentage of current multifamily stock. Here’s a snapshot from Yardi of 20 metros and the relative supply increases they will experience in 2024:

I don’t care how great Austin, Texas, is—they aren’t seeing a 10% increase in renter population in 2024 to offset that 9.5% increase in supply. Rents are coming down.

If I owned property there, I’d be writing off my investment. North Carolina and Florida markets will follow, and my hometown of Denver is also at pretty high risk. I invested in a Phoenix multifamily property a few years ago, and the deal is millions of dollars underwater at present valuations. It doesn’t matter what your thesis for value-add is or was in many of these markets—the supply side is just overpowering the demand side. 

Multifamily developers appear to be doing everything in their power to solve the housing affordability crisis in this country in 2024, and I, for one, believe they will succeed in making a major dent—perhaps at their own expense. 

Where’s the demand going to come from?

Investors have to ask themselves where the people and incomes are going to come from to fill up all the new inventory being built in their target market.

One argument for demand is the simple reality of higher rates—the alternative to renting is purchasing a home. Buying a home is cheaper than renting in only four U.S. cities right now. This means that there is an argument that many people will seek to rent rather than buy. 

I buy that argument but also want to point out that higher rates also put downward pressure on demand. Millions of Americans who own homes with low interest rates are locked in place and are not moving out, whether to purchase new homes or become renters. I fear that the upward pressure on rents from higher interest rates will not be enough to outpace the supply hitting the market in 2024.

I also worry about preferences changing. About 40% of renters who responded to a recent national survey live in single-family homes. But, 51% say that their ideal rental is a single-family home. As supply comes online and renters have this choice, I believe that their preference for single-family houses could drive down the demand for multifamily rentals. 

In 2023, too much inventory and insufficient population and income growth resulted in rents falling modestly across the country. Another year could, and I believe will, compound those problems and see concessions continue to increase and market rents fall in many metros.

One bailout for investors could come from income growth. However, I don’t know of any economists who are expecting incomes to show positive surprises in 2024, although maybe that changes a little bit with the recent January jobs report. I think investors should count on no more than a 3% to 4% average wage increase as an offset to the supply/demand imbalance that will grow in multifamily throughout the year. 

Rent growth in your market is a function of supply, demand, and income. It’s not just about inbound migration and jobs. It’s about how supply interplays with those factors. And that story is one that could really hurt a lot of owners and operators of apartment complexes across the country. 

Part 3: Expenses Eat Into Multifamily Profit

Led by property taxes and insurance, uncontrollable expenses are skyrocketing, with an average increase in 2023 of over 19%. These increases also vary by region, and I’ve heard anecdotally about 100% and 200% or more increases in insurance premiums in parts of the South and West. More bad news for Florida multifamily specifically.

Those insurance hikes crush valuations because there is nothing the operator or owner can do to prevent them. They just get taken straight out of cash flow—and the property’s valuation.

On the tax side, soaring values and profits leading up to 2021 are backfiring, as assessed values for commercial property are inflated, and insurance premiums in certain markets have increased by a factor of 3 or more. Owners and operators sometimes still try to pretend that their properties will trade at valuations from two to three years ago, and appraisers are in a tough spot, with transaction volume too low to provide accurate comps in many cases.

What’s the syndicator or fund manager going to do? Admit to their investors that their property equity is wiped out and fight for a lower valuation for tax purposes? Or accept the higher assessed value, pay the tax, and pray that things don’t get worse?

Few legislatures and local residents will have pity parties for syndicated or private equity landlords, and it’s just too easy to turn to the owners of large commercial real estate buildings in many local jurisdictions to pad city and state budgets.

In addition, rising labor costs in the last few years are a double-edged sword for multifamily operators—they drive incomes up, but they mean it costs more to staff, maintain, and repair properties. In the face of competition on the supply side that limits rent growth, these expenses continue to leech into the bottom line. 

Part 4: Interest Rates Won’t Come to the Rescue—Unless There’s a Historic Recession 

Many investors who pay attention to the Federal Reserve know that the big bank is signaling that it will cut rates two to three times in 2024 to the tune of about 75 bps. 

I believe the Fed. I think that will happen. But I think that anyone who pretends to know what will happen after those three rate cuts is fooling themselves. And the market is, in my opinion, already so optimistic about rate cuts beyond 2024 that it is irrational.

Let me explain: A 75 bps rate cut puts the federal funds rate at 4.5% (down from the current ~5.3% range).

Right now, the yield curve is inverted. Short-term Treasury yields are in the 5.25% range, while the 10-year Treasury yields about 4.15%. In a normalized yield curve environment, the 10-year Treasury would be about 150 bps higher than the short-term Treasury. With today’s federal funds rate, that would imply a 10-year Treasury at 6.75%. 

This is important because the 10-year Treasury is a key benchmark for multifamily and commercial real estate investors. A lot of debt products, including agency debt products like Freddie Mac loans, are pegged to the 10-year Treasury yield. When it goes up, borrowing costs increase. When it goes down, borrowing costs decrease.

If the Federal Reserve decreases the federal funds rate to 4.5% in 2024 and keeps it there, in a normalized yield curve environment, the 10-year Treasury would rise to about 6%, up from ~4.15% today. That’s a nearly 50% increase and would have major implications for borrowers in the multifamily space.

Many readers will think that my discussion of the possibility of a 10-year Treasury yield at 6% is crazy and will never happen. Maybe they’re right. 

However, I think that banking on the status quo or a lower 10-year Treasury yield is a dangerous and aggressive stance. 

Let’s think about what needs to happen for the yield curve to normalize and for the 10-year yield to stay where it is.

For the 10-year yield to remain at its present yield of 4.1% long-term (assuming that a stabilized yield curve sees a 150 bps spread between the 10-year and SOFR), the Fed would have to reduce the federal funds rate from 5.3% to 2.6%. They’d have to lower rates at least 10 times at 25 bps per cut.

Once at a federal funds rate of 2.6%, a 150 bps spread to the 10-year gets you to the present-day 4.15% yield.

Stop and think about the extraordinary economic events that will have to transpire for the Fed to cut rates 10 times from where they are today in a short period of time. That’s the bet investors are making who think that the 10-year, and therefore multifamily borrowing costs, will stay flat, much less decrease.  

I believe it is much less crazy to plan on the 10-year continuing to rise than to plan for it to stay where it is today or fall over the short-term to medium-term. And when the 10-year rises, the cost to borrow on multifamily properties rises, and the alternatives to multifamily real estate continue to look better and better. 

Despite pundits stamping their feet in frustration and talking about how the U.S. national debt couldn’t bear rates that high, this is absolutely possible, and more than possible, the logical result of short-term rates stabilizing in the mid-4% range, which is the Fed’s stated plan.

 If you believe that the yield curve will normalize at some point in the next two to three years, then for you to bet on the 10-year yield to remain where it is, you have to be a bold and serious bull on rates or forecasting a recession as bad as the one from 15 years ago, in my opinion. 

Let’s also not lose sight of the fact that a deep recessionary environment where rates get cut 10 times and in a hurry will not help multifamily real estate values.

I believe that in 2024, multifamily investors will be forced to play the same coin-flipping game they played last year: 

• Heads, no recession, “soft landing,” and the 10-year marches up and up, hurting multifamily valuations
• Tails, deep recession, rapid and steep rate cuts, but tanking asset values, hurting multifamily valuations

Same game, still not very fun.

Final Thoughts

A historic onslaught of supply that is currently being built will almost certainly outpace demand—a toxic brew of expenses that, one by one, will slice into net operating income. High interest rates with every probability of staying where they are at or rising. And, worse—easy, low-risk ways to earn more cash flow, with more liquidity and much lower risk, are all over the place.

I just don’t see the path forward for multifamily in 2024. I was hoping when I wrote my thesis in 2023 that there would be light at the end of the tunnel in the second half of 2024, as much of that inventory came online, prices fell, cap rates rose, and markets had a hiatus from supply. 

A 20-30% crash is a buying opportunity, right?  

Wrong. 

I underestimated the aggressiveness of multifamily development starts and the length of the timeline to get that inventory online. I underestimated the resilience of current owners and operators, who, largely, have been able to hold on to their assets to this point, making “price discovery” a challenge, given the step change in transaction volume from two years ago.

And while I acknowledge factors that could put a floor on price declines (capital on the sidelines, banks being willing to work with borrowers to restructure debt, debt locked into place for many syndicators through the next few years, anticipated continuation of low transaction volume in 2024), these are not driving value upward, just possible mitigants to a slew of brutal headwinds. The “survive til 2025” game is not a game I want to play.

Because of this, I’m forced to conclude that my base case for multifamily valuations in 2024 is another year of cap rate expansion. 

How much?

For me, rational pricing puts cap rates at 150 bps above agency debt, which is currently in the 5.5%-6.5% range. That puts cap rates at 7-8% for prime multifamily. Prime multifamily is currently trading at just over 5%. With no NOI growth, an increase in cap rates from 5-7% is a 29% reduction in asset values. And, while it seems crazy to me, it represents a very possible scenario unless something changes. 

My best guess is that 2024 will see a continued steady march towards these levels, but we won’t get all the way to the 7s without a deep recessionary environment. 

I will be surprised if there isn’t at least another 10%, and perhaps as high as 20%, further reduction in multifamily values in the face of these headwinds, on average, in the U.S. in 2024.

So What? How to Protect Wealth and Generate Returns in 2024

I hope I’m wrong with this analysis, but I wouldn’t be publishing it if I thought I was. I think that all the signals are pointing to more pain in multifamily, and the fundamentals won’t realign until one thing responds—pricing, in the form of rising cap rates—in a way that makes this whole asset category make sense. 

The real question, however, is what this means for investors who agree with my thesis and conclusions about the risks in multifamily real estate in 2024.

Largely, my conclusions about what to do with my money remain unchanged from last year: pursuing that long list of attractive alternatives to multifamily real estate: 

Single-family and small (1-4 unit) multifamily 

Single-family properties and small multifamily properties are seeing significantly less new inventory. They can be purchased with 30-year, fixed-rate financing and held indefinitely by individual investors. While they face some pressure from higher interest rates, they are, in my opinion, much more insulated from pricing headwinds (and rent headwinds) than their larger multifamily counterparts. 

I plan to continue my long-term periodic approach to investing in these types of properties in 2024 and believe strongly in the long-term appreciation and rent growth potential here. 

Senior lending

With interest rates higher than cap rates and the ability to lend to the U.S. government, highly qualified homebuyers paying high interest rates, short-term or bridge financing for fix-and-flippers, and more, I moved a big chunk of my portfolio to debt in 2023 and haven’t regretted it. 

Real estate-backed debt is my favorite (especially debt backed by single-family housing and small multifamily properties), and I turned to some of the Hard Money Lenders we have here on BiggerPockets to purchase notes. I read up on this subject with the BiggerPockets book Lend to Live by Alex Breshears and Beth Johnson.

I feel secure letting someone else on the equity side take the first 30% of the risk and comfortable knowing that should the worst happen, I can foreclose and operate a paid-off project on my own time.

Buy deep and opportunistically

This multifamily market will be highly regional. Some regions will see prices crash and forced selling sooner than others. At some point, this reset turns from a bloodbath where investors lose a ton of money to an opportunity to buy at heavy discounts and take out poor operators for instant equity gains. The timing of that opportunity will vary by market and may already be here in select areas. 

For folks bent on taking advantage of the current environment, I’d encourage you to get really thoughtful about exit cap rates and assume modest rent declines in your base case scenarios for the next two years. There’s every reason to believe in long-term rent growth in this country, and it may not be necessary to perfectly hit the bottom of this multifamily, if my thesis is even close to right.

Use light leverage, and be wary of “preferred equity” and its siblings

Given the volatility in the market, I think that a lot of leverage can kill operators. Be wary of deals that are highly leveraged, and be especially careful about deals that use “preferred equity” or “rescue” capital. 

These types of “equity” are really “second- or third-position debt” and senior to common equity. In a market with as much risk as this, they are still at high risk of experiencing serious losses and, of course, compound the risks of leverage for common equity at the top of the capital stack. 

I personally prefer a simple capital stack and highly respect offerings that avoid preferred equity altogether in today’s environment. 

Don’t throw good money after bad

Properties have lost a lot of money. If your property is underwater, your principal is lost. It’s a sunk cost. Don’t chase it, and before committing to that capital call, consider the opportunity cost. 

You can try to rescue money that is gone, or you can buy new assets at today’s valuation and reset. I’d steer many investors toward the latter strategy. 

Demand more from syndicators and capital raisers

Don’t let a syndicator take your money, put little to nothing of their own money in, earn an acquisition fee, earn a management fee, earn a refinance or disposition fee, and have the opportunity to win big regardless of whether they deliver returns. 

Those days are over. 

The power is shifting, and you, as the investor with capital to deploy, have the power here in 2024. Be wary of the following:

• Those who ask you to invest with them but aren’t contributing their own equity capital, not including acquisition or other fees. Fear of loss is a healthy balance to the possibility of maximizing gains. I’ve yet to meet a Limited Partner (who is not a former, current, or aspiring capital raiser) who does not agree with this stance, though I’ve met many capital raisers who strongly oppose my views on this. 
• Those who can’t provide current (last 90 days) comps for a project and assume in their base models that they will exit at the purchase or lower cap rates. 
• Those who assume strong market rent growth in 2024 and 2025 in their base case models.
• Capital raisers who charge fees that allow them to earn anything more than modest salaries during the hold period. Look for sponsors who set things up to only earn big after investors have seen their capital returned, plus a healthy return.
• Those who have a complex capital stack and treat investors in the same equity classes differently.
• Those who ask for your money but don’t intend to work in and on the deal or fund, for the life of the deal or fund, full time.

If syndicators don’t pass these simple tests, I pass and move on. L.P.s have the power.  

PassivePockets 

I believe that almost everyone reading this is looking for opportunities to passively build wealth through real estate or to raise capital from those looking for passive wealth-building opportunities.

And the world of private, passive real estate investment opportunities is the wild west. There is very little regulation, transparency, or standardization. Every advertisement for a passive investment is just that: an ad or sales pitch. 

Every capital raiser is promising Berkshire Hathaway-level returns. And every deal seems to come with high fees. It’s extremely difficult to know who to believe and trust, who is exaggerating, and who is simply wrong.

The market is very inefficient and, as a result, is potentially a great place to look for outsized returns and great value. But it’s also filled with land mines, bad operators, bad underwriting, overhyped investments, and exorbitant fees.  

I’m passionate about this space and feel a duty to educate this community on how to evaluate deals based on the merits of the operator and the underlying asset. Investors need to learn and develop a framework of what “good” looks like from a syndicator, a deal, and the business plan and to compare each deal to an ideal investment. Obviously, the “ideal” state will never be fully realized—it’s about how close to “Good” we as investors can find.

To that end, I’m starting a new BiggerPockets community called PassivePockets. PassivePockets will be for accredited investors or those otherwise able to invest and access private real estate investments, including syndications, private lending opportunities, private debt funds, and more. 

At PassivePockets, we will form hypotheses about what “good” looks like from a syndicator, fund manager, general partner, etc. We will bring in live deals that are currently open for investment and compare their offerings to what we believe “good” should look like. There, we will debate, discuss, review, and rate investment opportunities and those offering them as a community. We will be frank and honest when we find things we like in investment opportunities and sponsors and direct and brutally honest when we find things we don’t. 

As a membership-based community, we will work to be a fiduciary to the limited partners and investors looking to place their money and call out operators and deals, even those presented by well-known members of the BiggerPockets community, when they deviate from what we believe investors should expect and demand.

PassivePockets does not exist yet. It will develop in Beta in the first half of this year and evolve as we learn and grow together over the course of the year. 

If you are interested in learning more, I encourage you to sign up for our beta group wait list at PassivePockets.com. I look forward to learning alongside you and feel that 2024 is the perfect time to start learning—there will almost certainly be buying opportunities in the latter half of the year and into 2025 and beyond.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.