October 23, 2020
US multifamily REITs with high exposure to class B and C assets and properties in gateway cities—including Class A assets—are vulnerable to the economic fallout of the COVID-19 pandemic, due to risk of urban flight and high job losses among lower-income households, says Fitch Ratings.
In these lower-tier properties, sector performance has thus far been supported by federal stimulus payments and expanded unemployment benefits, given the essential nature of housing. However, larger than expected same-store net operating income (SSNOI) declines could pressure ratings.
Government-mandated moratoriums on evictions, high unemployment and lack of federal stimulus permanency are negatives for REITs’ top line. Tenant retention for properties in Fitch-rated REITs was in the 50%-60% range and rent collections at 96% to 99% during 2Q20. Occupancy was mostly above 95%, with renewals still positive. Rents have held up in the suburbs and coastal markets have not seen a shift to buying from renting due to still high home prices.
Job losses in the pandemic have been most prevalent among lower-income households. This increases risk for apartment REITs with sizable exposure to B/C assets in low-income neighborhoods, especially in a protracted economic recovery, says Fitch. Exposure to gateway cities, where the pandemic has an outsized effect due to density, is also a risk. Renters seeking more space as they work from home and Millennials entering a later stage in life may increasingly look to relocate to more affordable suburban and Sunbelt markets even after pandemic fears fade.
Accordingly, Fitch says, “outperformance of single-family rentals thus far may continue due to demographic and demand preference shifts.”
The growing evidence of urban flight increases the likelihood of concessions by A property classes in gateway cities as demand weakens and renewals slow. “Enduring geographic and age-related demand shift preferences by renters could limit longer-term growth rates in these assets,” according to Fitch. “Additionally, the secular tailwind of population growth in the 23- to 34-year aged renter cohort supporting urban gateway markets is expected to reverse in 2024.”
Fitch’s rating case assumes low-to-mid single-digit SSNOI declines for the apartment REIT sector in 2020 and 2021. “Negative new leasing spreads, delinquencies and occupancy declines will be a drag on revenue growth but fewer onsite hours, maintenance and repairs, over the near term, will limit expense growth to the low-single-digit range,” according to Fitch.
The ratings agency then sees SSNOI beginning to increase at a mid-single-digit rate annually in 2022-2023, “consistent with prior recoveries.”
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