CNBC released a report last week stating that the multifamily realty sector is facing an "acute crisis". According to the report, the luxury market's upper end is overcrowded and susceptible to market fluctuations or flattening. In actuality, apartment developers in the top 150 US cities delivered 395,775 new housing units in the last year, which represents a 46% increase Y-o-Y. Of these new homes, around 75-80% of them are classified as luxury communities. ,Read more.

I've witnessed many large developments built at breakneck speed during my time in Boston in recent years. It's not surprising that the vast majority of these homes are luxury homes that the average person are unable to afford. The Boston Globe's Spotlight Team recently published a series articles about the development of the "Seaport" neighborhood. It highlighted the city's shortage of affordable housing as well as the excess of luxury housing which doesn't accommodate its diverse population.

Do these multifamily developments pose a threat to the multifamily market? If the market slows down and the risk of collapse increases, it is for Class A new construction. However the existing Class B & C multifamily communities can stand up to market volatility and market imbalances. Let's look at the reasons for this luxury boom, and what happens if the boom ends.

The demand for luxury goods is strong

There are a couple of key drivers behind the increasing demand for luxury homes. Generation Y and empty nester baby boomers are moving into cities such as Boston Austin, Boston, and Denver, with a taste for high-end finishes and luxurious structures. This growth is due to the reality that empty-nesters and households with double incomes prefer renting rather to purchase. Benefits like high-end gyms, concierge services, and fully-service pet spas are now the norm. With each new building there is a sense that there's an arms race. Developers are actively incorporating modern amenities into their projects; however, it doesn't come inexpensively.

New Construction is Cost Prohibitive

The main reason why the vast majority of the new housing complexes you see being put up for sale is expensive is because of the increasing price of construction labor and materials. The demand for construction work is at an all-time high and the cost of building materials is the most they have ever been. As Toby Bozzuto, CEO of Bozzuto Group puts it, "The two-by-four isn't concerned about whether it's in a luxury structure or in a budget-friendly construction. It's exactly the same price. Because of the high cost of labor and materials, and the rise in the value of natural resources, developers are required to construct luxury homes because the numbers simply don't allow for building any other type of construction. Cities are being forced to adopt rules that require developers to build a certain number of affordable units in their construction projects. The average unit count and the location determines how much they charge. This will not result in an increase in the number of affordable homes.

If Affordable Housing Can't Be Built, what is the Alternative? Learn more here.

There have been many boom and bust cycles within the building industry over the decades. You will find many apartments constructed between 1970 and 1990 in various cities across the United States. Although they may seem old-fashioned when compared to the buildings that are being built in the present, the "bones" are in good shape. These buildings constructed in the frame were built with modern techniques and materials. They typically only need surface rehabbing and wear-related items replaced. These apartment communities, and the secondary markets they're in, are positioned well to take on the flood of new luxury apartments and to maintain housing that's fairly affordable. These Class B properties can succeed in any economic situation. When the economy is thriving Class C tenants can shift to Class B properties . When the economy is in decline and Class A tenants are unable to not afford the high rents, and they typically shift to more affordable Class B properties. Investors are able to purchase these properties for less than the price of construction, which allows them to offer a wonderful home, but keep the rents in a range that is appealing to tenants with varying income levels.
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