CNBC released a report last week stating that the multifamily realty sector is in the midst of an "acute crisis". According to the report, the upper-end of the luxury market is overcrowded and susceptible to market declines or flattening. Apartment developers in the largest 150 US towns constructed 395 775 new housing units last fiscal year. This is an increase of 46% compared to previous years. In these new housing units, nearly 75-80% are considered luxury communities. ,Click here.

When I lived in Boston over the past few years, I've seen numerous major developments being constructed at a breakneck speed. Not surprisingly, the overwhelming majority of these properties are luxurious luxury residences which the average citizen are unable to afford. The Boston Globe's Spotlight Team recently published a series of articles on the growth of the "Seaport" neighborhood. The article highlighted the city's deficiency of affordable housing, as well as the overabundance luxury housing which doesn't accommodate its diverse population.

Are these multifamily developments danger to the multifamily sector? The threat to Class A new construction is evident if the market is flat but the existing Class B & C multifamily communities are well-positioned to stand up to market imbalances and corrections. Let's go through the reasons behind why there's been an increase in luxury and what happens when demand slows.

The demand for luxury goods is high.

There are two major reasons for the rising demand for luxurious apartments. Generation Y and baby boomers who are empty-nesters are moving into cities such as Boston, Austin & Denver with a discerning taste for luxurious finishes and amenities-packed buildings. One reason for this boom is that a lot of double-income households, as well as empty nesters with the money to buy are choosing to rent. Luxury gyms, concierge service and spas with full-services for pets are all becoming regular. With every new development there is a sense that there's an arms race. Developers are rushing to incorporate modern amenities in their developments, however they're not at a cost.

New construction is expensive.

High-end housing is the primary reason for the fact that most new developments that are on the market are expensive. This is due to the growing cost of construction work. The demand for construction labor is at an all-time high, and the cost of materials is the most they have ever been. Toby Bozzuto is the CEO of Bozzuto Group. He says, "The two-by four doesn't need to be in high-end buildings or affordable buildings." It's the same price. As a result of high prices for labor and materials as well as the rising value of the raw land developers are required to construct luxury homes due to the fact that the numbers do not make sense to construct any other kind of building. To make sure that affordable housing is available cities are enforcing rules that require developers to incorporate affordable units in new construction projects. The number of units and the location will determine the developers will be able to charge. But, on their own, these rules won't result in a significant increase in the number of affordable housing.

What alternatives are there for affordable housing? Go here.

Over the past few decades, there has been building boom and bust cycles. There are many apartment buildings constructed between 1970 and 1990 in various areas across the nation. While these properties may feel very out of date compared to what's being built today however, the "bones" are good. Buildings built during this time frame have been constructed with modern materials and techniques and typically require only surface renovations and wear-related items replaced. These communities, as well as the secondary markets that they're in, are positioned well to counterbalance the flood of luxury homes being built and provide housing that's reasonably affordable. The benefit of these Class B properties is that they tend to perform well regardless of the economic conditions. When the economy is strong Class C tenants are able to shift to Class B properties. If the economy is weak, tenants of Class A have to shift to Class B properties. Investors are able to purchase these properties at a fraction of the price of construction and can thus provide a great place to live yet still ensure that rents remain in a range that is appealing to tenants of many income levels.
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