Remote Work And The Housing Shortage Are Reducing The Dominance Of Gateway Cities
Much like the pandemic that triggered its mass adoption, remote work appears here to stay.
Add that to the similarly stubborn trend of housing becoming less affordable, and the change in work habits is narrowing the gap between gateway cities and secondary markets in the U.S.
A nationwide shortage of housing has pushed multifamily rents sky-high, and while rent growth has slowed down in recent months, the biggest headwind to the asset class may be tenants’ ability to pay rent. Meanwhile, the continued prevalence of remote work has caused thousands of companies to reduce their office footprints, leaving vacancy rates rising and rents flat.
Taken together, it marks the first time in decades that multifamily and office rents haven’t followed the same trend lines, according to a report from Moody’s Analytics.
“It’s generally viewed that there’s a housing shortage, and yet you’ve got lots of underutilized office buildings,” said Trammell Crow Managing Director Andrew Mele, who leads the developer’s Northeast business.
But it is still so far behind the pace of what is needed to keep housing affordable that larger numbers of families are moving to lower-cost areas, driving up multifamily rents and asset values independent of a metro area’s office market, a study published in mid-August by the Urban Land Institute found.
When Allyson Pritchett founded Bodka Creek Capital in 2019 to invest in apartment buildings, she started out looking for acquisitions in New Jersey, Westchester County and Connecticut, she told Bisnow.
“I figured, ‘Be close to the big city, and that’s where you’ll find deals,’” Pritchett said.
Soon after the pandemic hit, Pritchett pivoted to Texas as a target market. As the months went by, though, she started finding investments in smaller and smaller towns with population growth, both because of their lower cost and because of the space and proximity to nature they offered for older renters-by-choice.
“We started out looking for pockets of growth other investors would overlook, and at first we were thinking about suburbs of major [Sun Belt] metros,” Pritchett said. “But what we found is that it expanded far beyond that. There was a much broader area to look for assets than we thought there would be.”
One of Bodka Creek’s most recent acquisitions is in Kingsport, Tennessee, a city of 55,000 in the Appalachian Mountains. Pritchett got interested after seeing it in a top-10 list of cities with inbound, one-way U-Haul rentals, she said.
Small towns don’t have the market cornered on proximity to nature, and investors still see proximity to local amenities like food, entertainment and transit to an urban core as heavily preferable when comparing otherwise similar properties, Mele and Morgan Properties Area Vice President Carol Jackson agreed.
Jackson, who leads property management for Morgan in the Washington, D.C., and Baltimore areas, said her team is watching closely for the effects of long-term hybrid work in an area that has heavily depended on the federal government’s draw for employers and employees alike.
“The federal government and its contractors used to be very by-the-book with work hours, and now we’re seeing even the federal government allowing more remote work,” Jackson said. “So I’m hoping that this region still holds appeal with [the quality of] schools, plus the ocean, mountains and a major city all within a two-hour drive of wherever you are. But people are moving south for a reason; we still have winter here.”
Renters are not simply flowing downstream to lower-cost and lower-density markets, as evidenced by the fact that New York had among the highest rates of rent growth and construction of any market in the country the past three months, Moody’s reports. But New York’s office rents ticked down in Q2, worse than every market Moody’s tracked for its quarterly report but Cincinnati.
“Even though the New York office market is going through a little bit of a struggle and the city is still extremely expensive, the ‘young and hungry’ are still flocking there at extremely high levels,” Moody’s Director of Economic Research Thomas LaSalvia said.
Part of the reason that New York and other large cities like Seattle have started to take the lead in rent growth is because in the Sun Belt markets where growth was at its most feverish last year and into early this year, rent hikes and rising home prices swallowed up the cost advantages.
Rent has taken up a larger share of the average tenant’s income in 89% of metropolitan areas since the pandemic began, but the seven cities where the rent-to-income ratio rose by more than 5% were all warmer, growth-magnet cities, Moody’s reports: Las Vegas, Fort Lauderdale, Tampa-St. Petersburg, Miami, Greensboro/Winston-Salem, Palm Beach and Orlando.
Even in the years before the pandemic, employers had been moving to attract talent at elevated rates. But outside of Austin and Miami, Sun Belt cities are not seeing huge boosts in office demand and construction to go along with their multifamily booms, LaSalvia said.
The degree to which knowledge jobs will use a physical office remains an unsettled issue, one that could take three to five years to stabilize, LaSalvia said.
But the existential questions being asked around office buildings underscore the changing relationship between where people work and where they live. In Charlotte, healthcare company Centene backed out of a $1B headquarters project after construction had begun, citing remote work as the cause.
Rather than population growth translating to major office growth or headquarters shifts, office real estate could wind up following a similar model to the past couple of years in multifamily: Smaller cities could emerge as modest clusters for tech or specific industries, while the recruitment advantage of gateway cities slips a bit.
“[Due to] the fact that we have skill migration going on somewhat separate from business location, we’re going to get a little more dispersion throughout the country for these job clusters,” LaSalvia said. “It’s always about the trade-off between a labor pool, information exchange and all the benefits of being in a cluster, and the cost of locating there and of employees locating there.”