Philadelphia Is Experiencing An Influx Of New York Investors Fleeing Rent Control
As a renters’ revolt caused New York politicians to rewrite the rules for landlords, many investors threatened to take their business elsewhere.
The movement for rent control culminated in the passage of comprehensive state legislation in June, limiting landlords’ abilities to raise rents, and by extension their ability to wring value from apartment buildings. The change has driven a wave of New York-based investors, many of them family offices, to seek deals outside of their hometown for the first time — and Philadelphia is one of the first places they have been looking.
“I’m surprised it didn’t happen earlier, but we’ve seen a lot of unsolicited offers from wealthy families in New York that want to buy properties owned in Philadelphia,” Verde Capital President Jake Reiter said. “And we’ve seen that from funds now too, but the overall narrative is, ‘We can’t put our money in New York anymore because of the new laws.’”
Some have not even traveled as far as Philly, with two of the biggest targets being feeder markets Northern New Jersey and Southern Connecticut, Reiter said. But in North Jersey at least, many local rent control laws and near-New York rents are already in place, and local brokers haven’t seen any marketwide effects. It is early to tell how the trend will shake out, but Philly seems to be more appealing to these relocating investors.
“We’re speaking to a number of different groups that have never invested in Philadelphia that now have it at the top of their list,” Scope co-founder and Managing Director Philip Sharrow said. “You can’t beat the geographical advantage of Philly for just the natural endpoint of capital flow.”
The Philly market has felt upward price pressure from its New York-based influx, multiple investment brokers told Bisnow. Cap rates are on the rise in New York (from the low 5% range in Q3) and the added competition has tightened them in Philadelphia to the mid-5% to low-6% range, according to Marcus & Millichap, but New Yorkers still consider Philly a higher-yield market, especially now that its projected rent growth is so different from New York’s.
“They’re willing to accept the fact that they’re essentially competing against themselves, which pressures the price on the asset but is still better than the return you’d get in New York,” Reiter said.
Rents are up 5.1% year over year in Philly, according to that report. In comparison, New York's rents are only up 3.9%, and Marcus & Millichap forecasts slower growth going forward.
In the second half of 2018 and the first half of this year, as the momentum gathered in favor of new rent control laws, sale prices rose 8.8% per door to an all-time high in the Philadelphia region, according to a Marcus & Millichap report. Multiple sources interviewed by Bisnow expect that number to push even higher by the end of the year.
Philadelphia’s fundamentals are an easy sell for brokers, Sharrow and Marcus & Millichap associate Scott Caliguire said. Its steady job and population growth of the past few years has kept demand on pace with the consistently growing supply of new apartments, leading to investor and lender confidence that new developments will stabilize quickly and returns will be fairly safe.
Safety and stability have always been Philly’s strong suits, and have come into sharper focus as the global economy has taken its first staggering steps toward a possible downturn. The city’s core “Eds and Meds” are not sensitive to economic cycles, which contributed to Philly recovering from the Great Recession at a slower rate than other metros. They may also forestall and slow down the impact of the next recession on Philadelphia.
New Yorkers have been searching for value-add and development deals in Philly for years, but family offices seeking stabilized assets make up the largest class of new-to-market investors driven out of New York by rent control laws, Reiter and Rittenhouse Realty Advisors Managing Partner Ken Wellar said. These smaller investors have been increasing their allocations of capital into real estate and view multifamily as one of the safer bets within the industry.
Many of them are motivated to get deals done because they are seeking to complete 1031 exchanges.
“We’re going to contract right now or under contract on more deals than ever with 1031 buyers from New York,” Wellar said. “By the end of this year or Q1 next year, you’ll start to see more of those transactions close.”
But they may have trouble finding deals. As family offices are more concerned with long-term wealth building and under less pressure to deploy capital than institutional investors and private equity funds, Philadelphia makes all the sense in the world — making those already holding property in Philly unlikely to sell, Caliguire said.
“When you have solid, Class-A [properties] in Philadelphia, it’s a safe long-term investment,” Caliguire said. “With their rents continuing to rise and debt being so cheap, they can continue to hold and hit their returns.”
With more players entering a market without many properties up for sale, new entrants have been aggressive, Wellar said. Wellar has seen the time between signing a contract and closing shrink dramatically when New York buyers are involved, he said, while Reiter has seen some try to pry the door open just a bit wider by pursuing off-market deals.
One thing that does add an element of unpredictability to the Philly market is its inconsistent and embattled system of property assessment. The city wants to bring the assessed value of a property up to true market value, making recently transacted properties a target for a tax bill spike.
The drive for reassessment has been part of a push to make landlords pay a larger share of the city tax bill, which places Philadelphia among a global movement to impose restrictions on real estate investors and developers. Some are so spooked by the backlash against landlords that they are looking more in cities with a political base more to the right, Sharrow and Wellar said.
“[New York investors] are flocking all over the country, buying stuff in the Midwest, Southeast and Texas,” Wellar said. “They’re more landlord-friendly governments … You look at how California was next to follow [with rent control], so it definitely makes sense that investors would be more cautious in entering markets that are farther to the left.”
So far, rent control does not seem to be high on tenant advocates' list of priorities in Philadelphia, lending some confidence to potential new entrants that they won't be burned a second time.
“In the history of Philadelphia, we’ve never had it, and we don’t believe it will be enforced anytime soon,” Wellar said. “So investors are pretty confident that if they are buying a market-rate asset, they can push rents.”