by: Connor Bobis

In the years preceding the widespread economic shutdown in 2020, the Sun Belt region experienced a stable demand for residential real estate that continued to grow even amid the pandemic. Throughout 2020 and 2021, cities in the Sun Belt, including Phoenix, Houston, Dallas, Austin, and Atlanta, collectively saw a population increase of 300,000 residents from mid-2020 to mid-2021 (1). This ongoing population growth transformed these major city hubs in sunny southern cities into attractive investment destinations, enticing both investors and tenants with the glimpse of favorable returns.

Fast forward a few years, a major ongoing trend shaping the real estate landscape in 2023 is the hybrid work model, which notably impacted the surge in residential leasing activity during the pandemic. The hybrid work arrangement had an evident effect on two property types: office and residential spaces. Despite these broader trends, the Sun Belt region saw robust rent growth in residential real estate since 2013 (2), solidifying its reputation as an appealing relocation for various tenants seeking remote work opportunities. Notably, apartment leasing rates in 2021 surpassed 2020 figures by 26%, although they didn’t fully reach pre-pandemic 2019 levels (3). This uptick in demand appeared promising to investors in multifamily units, leading to increased construction activity as the pandemic waned. However, the success of these new residential units entering the market hinges on stable demand within the Sun Belt throughout 2023 and 2024.

The evolving investment landscape in real estate has been shaped by population growth, heightened leasing activity, and the increased demand for residential units following the pandemic. As a result of these market dynamics, the number of development projects multiplied, responding to the demonstrated demand for residential spaces in Sun Belt cities as the economy emerged from the pandemic. In Q1 2023, CoStar data revealed an almost 4% rise in vacancy rates compared to Q1 2022. Despite this increase in vacant units, demand for apartment units from 2022 Sun Belt projects under construction continued to grow in 2023 (4). The success of these new units hinge on property values maintaining their integrity within existing lending parameters and prevailing interest rates.

Looking ahead to the remainder of 2023, the pressure to preserve cash flows against rising interest rates is mounting. Fluctuating cap rates could lead to the postponement of construction projects. Already, new construction in the Sun Belt surpasses that of 2022, and the vacancy rate for multifamily properties is on the rise. This trend is exacerbated by population growth struggling to match the influx of new residential units to the market. Ultimately, tightening finance terms amongst rising vacancy rates and further compressed returns could create an unfavorable investment environment for residential projects. Additionally, this will grow the need for alternative investment avenues such as REITS, crowdfunding, and gap financing, which will help alleviate the pressure of loan payments on potential profitability. 

For instance, the national average cap rate for multifamily units stands at 5.1%, while major Sun Belt cities are projected to decrease to 4.8% in 2023 for Dallas-Fort Worth, 4.0% for Phoenix, and 4.3% for Las Vegas (5). Despite these challenges, resilient returns for Sun Belt real estate investments are anticipated, contingent on property values remaining steady and rebounding to pre-pandemic levels. Nonetheless, the influence of vacancy rates on the newly introduced residential real estate supply by the close of 2023 remains  pivotal, and the profitability will significantly rely on the established lender relationships for obtaining essential capital at favorable terms.

Leveraging 14 years of expertise, the Lever Capital team specializes in facilitating connections between clients and lenders across the capital stack and in unique scenarios. Whether the property is in the Sun Belt or not, commercial real estate projects often encounter complexities upon completion. Allow Lever Capital Partners to lighten the load with our strong relationships across the entire country to secure the capital necessary for your next real estate project. 

References: