2020 has, thus far, been a year of massive upheaval politically, socially, economically, and culturally. Things have changed on a global scale, and it seems highly unlikely we will ever fully return to “the way we were” before the novel coronavirus COVID-19 emerged as an international threat. In the United States, we were teetering on the edge of an economic correction for nearly 18 months prior to the pandemic. Most people expected the next presidential election to either expedite the correction or stall it another 24 months or so. When the entire national economy was forcefully shut down to varying degrees by state governors, however, everything changed.
Not surprisingly, real estate changed with the times – as it always does. However, this time, the housing market did not implode, as it did in 2007 during the last crash. Instead, it simply shifted in several notable and far-reaching ways that, if identified and monitored, will help investors identify the signs of the next series of market shifts to come over the course of this still-new decade.
Population Trends Began to Reverse
Since the 1870s, Americans have been migrating toward metropolitan areas. By 1920, more Americans lived in cities than in rural areas for the first time in U.S. history. It was the beginning of a very long love affair between Americans and their urban and suburban homes. Over the past decade, residential preferences have clarified even farther, with more and more young professionals choosing to live in urban locations and multifamily residential developments rather than the single-family residential options available to them in suburban areas.
In fact, according to Pew Research data, about one-third of Americans were living in urban areas in 2016, a national growth rate of 13 percent. Pew analysts predicted what any real estate investor could tell you anecdotally: this year’s Census will show that even more Americans have moved toward urban centers since the last data on the subject was released. In short, there has been massive population movement inward, toward urban cores, over the past decade. Now, however, it appears that trend could reverse itself in some areas and disperse populations in new directions in others.
Not surprisingly, the coronavirus pandemic has created an untenable situation for many urban residents, especially those who selected homes with low square footage but lots of appealing community areas and amenities. Residents are reacting both to the potential spread of the virus itself and, also, to their local governments’ response to the pandemic. For example, people currently living in highly concentrated urban areas in New York City are leaving the area for the suburbs or for metro areas in the South or Midwest. These people are moving for myriad reasons, of course, but the biggest motivator is psychological: people simply do not want to live in close (read: multifamily residential) proximity to each other right now. They want a little space, a single-family residence, and an area in which they can afford to rent or own that space. For most people, the answer to these needs is definitely to move south or toward the Midwest.
This shift in population movement and housing preference is accompanied by the biggest work-from-home “initiative” in history thanks to the stay-at-home mandates enacted by almost every state. Suddenly, employees in forced remote-working situations and their employers are finding that in a majority of cases, remote workers can do just as much at home as at work – and the “office space” is a lot less expensive for the employer. As a result, even employees who expect to return to work in the future are willing to move farther afield than they used to consider because they do not expect to necessarily commute to work every day.
All of these factors are combining to create a strong demand for single-family residential properties both for purchase and for rent in suburban and even rural areas. It is going to change the entire face of some areas of the country as populations stream away from urban, multifamily living and toward more physically distanced single-family living. Investors watching these population trends and monitoring markets for affordability, effective pandemic management, economy- and business-friendly policies, and the geographic space to accommodate a large incoming population with these preferences will soon spot the markets that will be heating up over the course of the next 24 months and beyond.
Economy-Friendly Policy Will Make or Break Markets
There is an ongoing debate raging across the United States right now about how to “reopen” the economy after essentially shutting down the engine for the majority of March, April, and May. This debate is based on science for some, politics for most, and, for a few, economic measures and metrics. Real estate investors have had a front-row seat to the effects of economic shutdowns, battles between businesses and legislators, and extended shelter-in-place orders that have reached far beyond practicality and extended into full-blown panic. We have felt, firsthand, the effects of mortgage forbearance on the grandest scale in history. We have experienced, firsthand, what happens when our tenants cannot go to work to earn money to pay rent and, to further complicate matters, cannot be evicted even if they are working and simply elect not to pay.
The ripple effects of the economic shutdown were widespread and continue to be so. This is not just inside the investing community, but for the entire economic environment in any given community. Over the next few years, pay attention to which states pay the price for demanding citizens shelter-in-place for months on end and threaten to walk back opening measures. You will see states that were able to reopen carefully, responsibly, and quickly see substantial rewards for their efforts as businesses and consumers relocate to these areas of the country.
On the other hand, states in which stay-at-home orders were extended, threatened as a means of punishment for dissenting voices, or simply enforced to the point of complete impracticality will see a distinct exodus. After all, our own U.S. Treasury secretary has warned us the country cannot take another economic shutdown. Steve Mnuchin pulled no punches in mid-June of this year. He stated bluntly, “We can’t shut down the economy again,” adding that there would be additional federal aid for workers in “especially impacted” industries.
States like Georgia, Indiana, Tennessee, and Florida are likely to see faster economic recoveries and lower rates of rent and mortgage delinquencies and defaults. This is incredibly important for real estate investors because while many homeowners and tenants are protected from eviction and, by extension, foreclosure, by many forbearance programs and their associated grace periods, most investors do not have similar protections. Those states are going to be rife with opportunity over the next 12 to 24 months as more and more people and businesses try to relocate there.
These Effects Will Not be Distributed Equally
As is always the case in real estate, the short- and long-term effects of the COVID-19 pandemic on the market will not be distributed equally. However, this is more than just a geographic issue that may be covered simply by stating, “It’s all about location.” The effects in our industry will be spread across various sectors in widely differing degrees dependent partly on geographic location and partly on consumer sentiment and demand.
For example, many real estate investors who own short-term vacation rentals, mostly Airbnb rentals, have been negatively affected over the past few months. Airbnb bookings have fallen and, in some states, were actually illegal this past spring. However, in many states the short-term rental markets are once again open. Unfortunately, this is not true for many of the hospitality sectors that created the demand for the short-term rentals in the first place. Investors with heavy investments in Las Vegas, Orlando, and other large-scale tourist-reliant economies are likely to experience a great deal of short-term pain as guests cancel bookings either because they fear the crowds or because they no longer can access the attractions they planned to enjoy when they originally made the reservation. As with housing, hospitality-related real estate in the form of short-term rentals and hotels will likely experience short-term fallout in many cases and long-term fallout in areas of the country that prohibit economic reopening into the fall.
Readers should note, of course, that one of the best things about Airbnb rentals is that they are flexible. If your short-term rental strategy is no longer working, you can switch to a longer-term-leasing model. This may tie up your property or create lower levels of cash flow, but many real estate investors are using this flexibility to keep their businesses afloat right now. Long-term rentals have different regulations than short-term rentals even in states that have remained restrictive when it comes to residents’ movements outside of the home. The ability to change gears quickly with short-term rentals has been invaluable for many real estate investors.
The office space and retail sectors are also likely to suffer both in the short- and long-term. Many analysts have been predicting the end of brick-and-mortar retail (or at least a dramatic reduction) for quite some time due to the astronomical growth of e-commerce. The coronavirus pandemic likely accelerated an existing trend as more and more people discovered online ordering for everything from underwear to fresh produce. In fact, we are receiving offers locally at the moment soliciting the purchase of strip malls for about 30 percent of their previous market value. The shops and restaurants in those spaces are simply going out of business. They can’t pay their rent and the landlords are losing the properties as a result.
Office space had also been trending downward slowly, but the coronavirus has certainly hastened the inevitable. With the advent of remote working, dozens of companies have decided to simply let their employees continue working from home once things open back up. Some estimates indicate there are 60,000 employees currently working at home who will not return to a physical office. While this will not apply across all industries, it will certainly affect some sector-specific office space in a significant way and, furthermore, it will create a situation where landlords seeking tenants for office space will have to be very competitive to get good tenants.
There has been a bright light in the commercial real estate sector during the pandemic. It hasn’t all been bad news across the board! The storage sector is absolutely thriving. Storage has historically gotten a boost during economic downturns, and in today’s environment, warehouse space is booming as well. Amazon alone has hired tens of thousands of new employees and is building and buying up warehouse space wherever it can in order to set up new distribution centers. Prior to the shutdown, there was a large portion of the population that simply refused to buy things online. These people did not really know how to do it and did not want to, so they didn’t. Now, however, they have had to learn. It’s very unlikely that population is going to go back to brick-and-mortar buying completely just because the shelter-in-place mandates are lifted. Warehouses are here to stay.
The Second Half of 2020 Will be in Full “Sandwich Effect”
So, having broken down all of these sectors and changes heading our way this fall and winter, what does the latter half of 2020 hold for real estate investors? Well, there are several things we can certainly count on.
- There will be foreclosures.
Even though prices have actually been rising in many parts of the country during the COVID-19 pandemic, we will still certainly see more foreclosures. The high-end price points in most markets are going to soften and the low-end price points are, eventually, going to work their way through forbearance and end up distressed as well in some cases simply because the people living in those lower-tier properties tend to be the most dramatically affected by negative economic movement. The result will be an increased availability (for investors) of attractive, affordable, single-family housing either to fix-and-flip or to fix-and-rent. There will be a “sandwich effect” where the middle part of the market gets squeezed but holds mostly firm, while the top and bottom tiers of properties get pushed down and up in value, respectively. When this happens, the residents of the top tier will move down into the middle tier of housing, pushing prices upward again. The result will be that the owners of middle- and lower-tier single-family rentals will be in a prime position to create significant cash flow in their portfolios as those populations shift and settle into new locations and new residences.
- The Midwest and Southeast will emerge as economic leaders.
Historically, no one has treated the Midwest like an economic powerhouse in the United States. That distinction has been reserved for metropolitan areas on the coast, with a few notable exceptions for major metro areas like Chicago, for example. Now, however, the “big money,” Wall Street and other institutional investors, is moving into the Southeastern areas of the country where the economy has reopened successful and where there is room for suburban areas to expand and into the Midwest to smaller, rural markets within about two hours of major metropolitan areas.
This means that investors looking to allocate capital now should be looking at the outskirts of major metro areas like Dallas, Texas; Atlanta, Georgia, and Chicago, Illinois, for properties that will appeal to both the tastes and pocketbooks of middle-class professionals no longer willing to pay high rents in an urban area when they could pay the same (or less) for a single-family residence with a little more space in which to live.
- There will be less reliable data than ever.
Probably one of the worst things that has come about as a result of this pandemic is that everything in our lives today is highly politicized, including our health. The decision to wear a mask has become a partisan statement. Death data is wielded like a weapon rather than the valuable research tool that it is. Part of being a good investor is having good data, and when everyone is manipulating the data to accomplish something different, it can be hard to know where to turn. Fortunately, data that does not lie is more accessible to real estate investors than you might think. You just have to look at inventory levels and new construction permits. In states and regions that are proving somewhat pandemic-resistant or pandemic-insulated, like Georgia, for example, building permits are still up (and construction is classified as “essential”) and housing inventory is not still plunging downward. Finally, you can also evaluate days on market to see how long the properties that are listed are taking to sell.
Cream Will Rise to the Top
In this national crisis, just as in every other crisis, there will be leaders and losers in our industry. No matter whether you are a brand new investor or an experienced veteran of the industry, if you are dedicated to evaluating good data, making responsible decisions with your capital and any capital entrusted to you, and identifying the markets that current trends indicate hold the most and best potential, you can get through the pandemic and post-pandemic tumult with your real estate portfolio and business intact. Real estate investors must not only track changes in the market; we must be ready to pivot and change strategies on a dime. There are countless opportunities to improve your own business, lift up your own community, and create lasting, generational wealth in your real estate portfolio if you will simply keep your eyes open during these complicated times.