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    How an oversupply of large multifamilies is signaling to Chicago real estate investors

    Courtland Townsley, Managing Partner & Managing Broker

    River North. West Loop. South Loop. These are just some of the most popular neighborhoods among Millennials, and it’s where we’re finding a glut of multifamily developments looking to achieve higher rents — and it’s resulting in an increase in supply and in vacancies.

    So what’s behind this trend? And how is it affecting the housing market? Courtland Townsley, Managing Partner at Touchstone Group, gives us the scoop and shares a few insights for savvy investors.

     

    Where did this oversupply come from?

    In the past few years, many higher-income young Millennials have flocked to Chicago and sought areas in the city that provide them with walkability, amenities, etc. However, this group isn’t buying property like the generations before them. Instead, they’re continuing to rent — we’ve seen homeownership drop 6% in the Chicago area the past 12 years. To catch up to this demand for leasing, developers started building high rises and other dense multifamilies. But demand has dropped, and there’s now an oversupply of units on the market.

    Should we expect asking rent to go down due to the oversupply?

    That’s not what we’re seeing at this point. Initially, rents were going up because of the downtrend in demand in home ownership from this age group. Plus, these higher-income millennials were willing to pay up for the amenities and convenience. However, the income level has since stagnated, and rents have plateaued. Instead of a reduction in rent, we’re seeing more incentives being offered to renters (fewer fees, free month’s rent, etc.) as well as to leasing agents (higher commissions) to combat the vacancy.

    Increasingly, Millennials are leaving expensive rental submarkets for emerging neighborhoods in Chicago.

    So now there’s a huge amount of density in supply. How are developers responding?

    Because these large projects have a long timeframe, inventory will continue to come onto the market for the next two years. But developers have slowed their growth because they recognize that the demand’s not there. In fact, acquisition on the front end is now down 20%. I think that’s a clear indicator.

    How can we expect the market to react in the next 5 to 10 years?

    Leasing density appears to be on a downward trend, but it’s hard to say for sure what else might happen. I expect Millennials to be a key indicator. Are they going to shift to building equity and understanding the value of home ownership? Can they, even? A lot of Millennials are drowning in student debt and have been paying a significant percentage (even up to 50-60%) of their income to rent instead of putting it to savings. Depending on what Millennials do, we’ll see the market shift.

    With all this uncertainty, is there anything real estate investors should be doing with their portfolios at this point in time?

    Yes. What we do know: Millennials are realizing that paying high rents and a large portion of their income to rent isn’t sustainable. So although they’re not buying just yet, many are moving to more affordable, up-and-coming neighborhoods that still provide them with similar access to the restaurants, stores, and amenities they’ve been accustomed to. That’s why we’ve seen demand in neighborhoods like Bronzeville, Logan Square, and Belmont Cragin. And investors should pay attention. We’re all looking for the next Wicker Park — or what Wicker Park was 10 years ago.

    I recommend investors tailor their attention to small multifamilies in these emerging markets. It’s less risk and a smaller investment, and we’ve already seen some of the long-term equity-focused investors make plays in these markets. It’s a great time for cap rate investors to jump in.

    Looking to grow your portfolio? See how Touchstone Group can help.

     

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