Jay Parsons Reveals What's Really Driving the Rental Sector

Discover the hidden forces shaping today's rental market as Jay Parsons from RealPage joins us to challenge conventional wisdom with surprising facts and trends. Who knew that a surge in home sales doesn't necessarily mean doom for the rental industry, or that a record-high apartment supply won't guarantee a drop in rental prices? Buckle up for a deep dive into the relationship between rental demand, apartment supply, and the younger adult population, shedding light on why 2021's rental market behaved in such unexpected ways. We also explore the buzz around commercial real estate conversion and its true impact on housing availability.

As the chat with Jay unfolds, we navigate the resilience of home buyers against a backdrop of economic headwinds and the surprising shift toward individual ownership. The conversation takes a turn to examine rental property owners grappling with rising operational costs. How do these financial pressures squeeze profitability in the rental sector? We'll discuss the influence of inflationary trends and take a glance at the steady growth in Midwest markets, which offers a refreshing contrast to the unpredictability of coastal cities.

Wrapping up our insightful exchange, we peer into the future of rental markets and the crucial role regional banks play in the equation of construction lending. Revisit the monumental changes to the U.S. inflation calculation since 1981, including the advent of owners' equivalent rent, and its profound effects on Federal Reserve policy-making. Lastly, we bust common myths about renting, illuminating the myriad reasons people choose this lifestyle, often unrelated to financial constraints. Join us for a session brimming with revelations that are sure to reshape your perspective on the rental housing landscape.

Nothing on this channel should be considered as personalized financial advice or a solicitation to buy or sell any securities. 

The content in this program is for informational purposes only. You should not construe any information or other material as investment, financial, tax, or other advice. The views expressed by the participants are solely their own. A participant may have taken or recommended any investment position discussed, but may close such position or alter its recommendation at any time without notice. Nothing contained in this program constitutes a solicitation, recommendation, endorsement, or offer to buy or sell any securities or other financial instruments in any jurisdiction. Please consult your own investment or financial advisor for advice related to all investment decisions.

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Transcript

Speaker 1: 0:08

My name is Michael Gaiott, publisher of the Lead Lager for Joy of the Hour. Again, it's Jay Parsons. Jay, introduce yourself to the audience and to me. Who are you, what's your background, what have you done throughout your career and what are you currently?

Speaker 2: 0:19

Yeah, thanks for having me, and my name's Jay Parsons. As you said, I've been kind of stumbled into rental housing research 15 years ago and currently lead the economics and instrument principle teams for real-page, and so again, thanks for having me.

Speaker 1: 0:35

All right, so I'm going to make these come to. The last three years have been maybe more exciting than usual when it comes to looking at some of the data on the apartment and rental side of things. First of all, just lay out some context for the audience as far as where rental demand currently sits and how do current dynamics look relative to history.

Speaker 2: 0:54

Yeah, it's really. Yeah, the last four years, really since COVID, it's been a bit of a roller coaster, and so, looking at where we are now, I think it's important to kind of briefly just recap where we've been. So you go back to COVID. Obviously we had this brief shutdown. We had a period where there's very little demand, and then get into second half of 20, but especially in 21, we saw enormous demand. We never saw anything like it.

Speaker 2: 1:22

In fact, I think 2021 is a great example of why it's a myth that rental demand suffers when homes are selling. It's directly correlated and it was a good year for all types of demand, for all types of housing. We had 50% more demand in 2021. There's a net leasing that absorption than any other year in the three-plus decades we tracked the market, 22, peak inflation everything slows down for all types of housing and then 23, we saw kind of, I think, the beginnings of some normalization, really good demand. And here we are in 24. And we've seen kind of, so far, a continued pattern of solid demand. You know, actually really I would say, strong demand most parts of the country, but even more supply and as we get into, I think that's really the story of the apart market right now.

Speaker 1: 2:10

How much of rental demand is driven by demographic younger people versus mortgage rates?

Speaker 2: 2:17

Yeah, and it's really all about. Let me just reverse that a little bit there's very little correlation to mortgage rates and home prices. It's really more about demographics, jobs, consumer confidence, migration, population. One of the things that we see particularly correlated with demand for apartments is the population Young adults in any given metro area, so we have growth in the 20s and 30s population that tends to be a big driver for apartments, as you'd expect.

Speaker 1: 2:44

Right, I think that's kind of the key thing the term metro, right. So I'm going to make the assumption that, obviously, rental demand is going to be highest in more cities, as opposed to more suburban areas where there's going to be less of that migration dynamic.

Speaker 2: 2:57

Yeah, it certainly depends on the market and the metro area. You know there's been, you know the suburbs have also done really, really well and you know, we've seen, you know I think it's changed the last couple of decades where we've seen, you know, strong demand for apartments in both urban and suburban.

Speaker 1: 3:17

Okay, so you've got strong demand. I think everyone feels the pain of higher rent prices in general, but you mentioned it a little bit earlier and this is part of your notice to me that at the same time apartment supply is at 50-year highs. I thought that more demand and more supply would kind of balance each other out, and prices still keep rising. So explain what's going on at the supply side.

Speaker 2: 3:41

Yeah. So you go back a few years again and you know we had this record demand coming out of COVID apartments. We all had cheap debt in that period of time, obviously too. And then there was another phenomenon where, a little more technically, we had cap rate compression across all asset classes. So in the simplest terms, what that means is that for investors who were buying apartments and we saw more investors coming into the multi-family market, coming out of the office sector, you know they were paying typically you would see a pretty good discount to buy older, what we call Class C apartments that are, you know, typically a few decades old, and we saw a lot of compression in those values between the new and the older assets and that drove a lot of capital into new construction, seeing better value in that segment of the market.

Speaker 2: 4:25

And so all of those things combined led to this, you know, really a generational wave in apartment construction, unlike anything we've seen since the 1970s. So more than a million units out of construction at that peak. And so in return, what we've seen is that again, demand's been good. There's really not a demand issue at all in most of the country, but there's even more supply. And so I think what we're seeing now is the impact of when we actually build a lot of supply you know, rents that puts a lot of downward pressure on rents because there's more vacancy, and so there's been a remarkably clear correlation between the markets adding, you know, the most supply at the fastest rates and the markets that are cutting rents, in addition to the building of the supply are there?

Speaker 1: 5:08

are these dynamics where there's like repurposing I'm thinking in terms of, you know, various commercial real estate maybe getting repurposed into more traditional housing, rental type of properties?

Speaker 2: 5:18

Yeah, Great topic. You know this one comes up a lot, you know particularly, you know policymakers love these conversions. Reporters like to talk about this topic as well. It's a really good topic.

Speaker 2: 5:28

The problem, though, is it's really not moving the needle in a substantial way. I mean, it's a relatively small number of buildings that you know, first of all, even qualify for a conversion, because most, you know, office buildings in particular, are really not built to be converted to residential. They're either, you know, too wide or it's just too expensive to make that conversion. I mean, think about, like a lot of office buildings they're we call, you know, the floor plate, which is the width of the building, is just too big, and so you'd have long and narrow units and they just don't really make sense for residential. Plus, there's all the costs of, you know, rewiring buildings that you know may have had one bathroom on a floor, to all of a sudden need to drill through concrete to put bathrooms and across the floor, and so it's enormously expensive. And there's HVAC call on us everything else, electrical as well. So there's there's those projects tend to be very cool and they do happen. A big picture. It's really a rounding error in terms of total supply right now.

Speaker 1: 6:21

All right, I did mention that you've got all this supply that should exert downward pressure. I think the only pushback there might be. Well, if the, if the supply is more concentrated among fewer and fewer owners of that supply, there's some oligopoly or monopoly type of dynamics in terms of pricing, because you know I have to compete, as much Does the does the makeup of the ownership of rental and I know this is a, you know, sweeping type of statement but does the? Does the makeup of the ownership impact the likelihood of prices dropping as opposed to just going up more slowly?

Speaker 2: 6:58

Yeah, it's a fair question and really there's no evidence of that.

Speaker 2: 7:01

It is, I think, a popular idea, but there's really been no evidence to support it.

Speaker 2: 7:06

Even you look at, for instance, the markets that are the most expensive in the US, which are New York City and San Francisco, these are markets that are the vast majority of rentals are owned by what we call mom and pops, smaller family business that have been around for buildings, have been around for decades and have very, very small share of the market that is owned by a larger group.

Speaker 2: 7:30

I mean, they're very fragmented. And then so it's really not so much about that, so much as it is about the basics of supply and demand. And so you look at some of the markets that are seeing the most rent growth right now. They're smaller markets where institutional investors really don't have a presence at all. We're seeing places like upstate New York and smaller markets in the Midwest that are still seeing 5% plus rent growth. And so, yeah, there's really just not much correlation at all between ownership types. And also, to add, point out that in really all parts of the country, in multi-family and really all types of housing is much more fragmented than people probably think in terms of ownership.

Speaker 1: 8:09

How do regional tax rates impact some of those dynamics? So I'm making the assumption that some people are probably moving to other parts of the US where there's more favorable tax treatment and in order to do that, they probably rent first before they consider buying. Is that a factor at all in some of these broader pressure?

Speaker 2: 8:28

Yeah, I mean I think, broadly speaking, when you look at just general migration patterns, you see a lot of growth. In Texas and Florida and Tennessee and Carolinas it's not just the taxes but also the general cost of living is much cheaper and in fact I'll give you another kind of stat there's a lot of focus on rents that grew faster over the last few years prior to 23 and these cheaper Sunbelt markets. But in most of these spots again, the Texas, the Florida, the Carolinas, et cetera, these markets are generally still about, in terms of renting an apartment are still about half of the average rent of living in a major coastal city. So there's still a major affordability advantage that is continuing to, I think, keep that inbound migration train going and it'll likely be a driver into the next cycle as well.

Speaker 1: 9:20

At what point do you think that flips? I mean you said that the mortgage rates don't really impact things on that end, but you always have these ratios of rentals versus owning a home and if you get too far out of whack then that's a turning point in a cycle. Talk through that, because I think that's where this gets to be interesting in terms of how it interacts with macro and Fed policy.

Speaker 2: 10:14

Yeah, well, I think, first and foremost, us data nerds and economists like to think about things as like renting versus owning, and the cost and in reality is people don't sit on a kitchen table and with a calculator or and kind of figure. Okay, is it cheaper to rent or buy? I think, first and foremost, there's a lot of other factors involved, like just lifestyle, the life stage, and so that's a big deal Now. So, for example, one thing we know as a driver to single family homes are marriage and having kids, and people are waiting longer these days, so that's extended the kind of prime apartment renting age group. Now, I think in a lot of cases what you'll see and I know the public trader reads get asked this a lot and they'll report on reduced loss of renters to home purchase. But it's a little bit of a misleading stat that I really don't think it's much of a driver, because people who are, for example, having a kid I mean, most apartments are not built for children, especially those that are newer market rate apartments, and so those folks, if they're not buying a house, they're probably going to rent a single-family home for that life stage instead. So there's kind of other parts of your question how it impacts that policy when we get into inflation and its role in CPI.

Speaker 2: 11:26

But I think, just at a high level though, what's happening right now is maybe keeping folks in, some folks on a renting stage for longer.

Speaker 2: 11:34

But I think also, when you look historically, we tend to see I mentioned this earlier there's more rental demand in periods where there's more home sales and I think that's because of the, we tend to see faster household formation in periods where homes are selling as well, like even in the mid-2000s, the height of the housing bubble, we saw great demand for rentals. And so I even tell apartment and single-family rental owners all the time I said hey, look, you should be rooting for a strong foresale housing market, because when home sales are, when the foresale housing market is healthy and strong and right now it's obviously we're just not seeing a lot of sales and people aren't moving and people aren't and there's home purchases are down. But historically, when those numbers are healthier, we see better demand. So I have a little bit, I guess, a contrarian view on that, but I think that historically it's pretty clear that these two sectors are more correlated than they are competitive.

Speaker 1: 12:29

So I'm going through some of your posts as we're chatting here and noting the one here on 30th January where you make the point that it's not really a renter nation, which you often hear as sort of this kind of tagline. Right, so, and listen, I mean I've used it to care for myself, and maybe it's just because I myself am kind of falling for the narrative, but are we really not a renter nation? Are we not in that sort of direction where, increasingly, just a couple of asset owners and everybody else is just renting from them? Yeah Well, I mean.

Speaker 2: 12:57

I think that I think people, you know you could always find a data point to sort of support a point of view, but I think, as it relates to the question of where you're a renter nation, well, if we are the majority, that would suggest the majority of our people are renters. That's not true in the US. It would also suggest that maybe we're rapidly moving in the other direction. That's also not true. And I think probably one of the greatest stats that people just don't realize in our country is that our ownership has actually been going up over these last few years and actually been trending upwards, you know, consistently, since, I think, 2016, 2017. And so and so it's just not really happening Now, obviously, long term, if mortgage rates remain high, home prices remain really high.

Speaker 2: 13:38

You know that can definitely change the equation, but you look back over these past seven or eight years, I think one of the great untold stories of the economy is the resiliency of the home buyer. Now, bear in mind I'm talking about the actual home buyers, not those who aren't able to buy a home, because unfortunately, there are a lot of those folks and that is a real challenge. I'm. I think there's. I don't want to take the spot, the focus away from that. But at the same time, you know you look at the numbers here and you know individual home buyers have looking at this is US Census Day is not my data, this is Census data. Have you know one more market share over investors over these last seven or eight years? And so you know that's that's I mean. The data is what it is and it's pointing to the exact opposite of a renter nation and more to one of a very resilient consumer.

Speaker 1: 14:24

How much of that resiliency is just because of credit availability as opposed to strong starting point right? I think that's sort of the, the question mark, which then dovetails into the Fed.

Speaker 2: 14:34

Yeah, I mean, I mean, yeah, I mean obviously the, the, the, the strong credit availability and low rates of the previous cycle really helped with that right and and and I think I think one of the kind of the important variables to watch and we saw this with Senator Warren's letter to the, to the Fed board recently is just the impact of higher rates on individual, you know would be home, home buyers, and I think that's one thing that kind of gets lost in the equation is that, while it's not part of the Fed's mandate, as the, as Chairman Powell likes to, likes to remind folks, I'm sure it's something they have to be thinking about.

Speaker 2: 15:05

I mean, they're humans and and that, that. That that is probably, you know, one kind of supporting reason why there's going to be continued pressure on the Fed to reduce rates somewhat. Because we are I mean America especially you compare it to other parts of the world, like Europe America is a nation of home owners, it's not a nation of renters, and you know we still call the American dream owning a home and you know more than two thirds of Americans, or I should say around two thirds of Americans, are home owners, households, I should say, are homeowners, and so that that's going to continue, I think, to put some, some, some, some downward pressure on, on, on on policy makers, for Israel leads to rates.

Speaker 1: 15:43

What about, in terms of just sort of profitability of of owning and then renting out to somebody else? There's a, there's a comment from somebody who he was going to come up but he's, I guess, on a few other calls the messaging, saying over the past four years he's encountered more damage to his rental properties than ever before, with rising euro costs. That's crushing him right. And we know, obviously, insurance, property insurance prices have been rising steadily, so is there a squeeze maybe happening relative to those rental prices for the owners of those rental properties?

Speaker 2: 16:13

Yeah, there's a lot to unpack in that question, I think. First of all, just more broadly speaking, is we're in a year 2023, 2024, we're entering a period where a lot of rental housing owners both multi-family and single-family rentals, some of them are going to see more expense growth than they will rent growth, and I think that's going to be pretty common across a big part of the country, and it's partly just due to the fact that there's some expenses that are more lagged from what we saw with the inflationary run-up. I mean, things like insurance are still going up maybe not as much this year as last year, but those insurance bills this year are still going to be quite significant. Property taxes in many parts of the country, marketing costs you have more vacancy, you're spending more on advertising, so payroll has still been going up. So all of that maintenance costs, all of these things are significant the same times that rents have flattened or gone negative in most of the country, and so that's going to be a little bit of a pinch.

Speaker 2: 17:11

So bear in mind for owners who've been around for three, four, five plus years for the same property is they also benefit on the other side of this too, where revenues are going faster than expenses in 2021 and 2022. And so you have to. Yeah, so it's not, in some ways, that is balancing it out. We're seeing some kind of catch up there, but for those who may have bought at peak and didn't benefit from that run-up, they could be in a different scenario. Now, specific to the question, there's also cases where I think, more specifically in certain markets where properties have, where you have some disrepair issues, that creates other challenges as well, especially when you have limitations on how much you could push rent, and so, anecdotally, we've seen some of those stories making the news, especially in certain coastal markets that have some other challenges going on. But I think the bigger issue for most of the country is again just the fact that, or most property owners right now, is the fact that, again, expenses are just growing faster than revenues in many cases.

Speaker 1: 18:14

Yeah, and all that, I'm sure, contributes to your observation that the Midwest is having its moment to shine from a rental demand and pricing power perspective.

Speaker 2: 18:25

Yeah, yeah, I've posted on this recently. It's kind of the story of the tortoise and the hare In the real estate world. No matter what type of real estate you're in, the Midwest has always been the kind of tortoise. It's the slow and steady, it's never super hot, it's never super cold. On the flip side, you look at the big coastal cities like New York and San Francisco. Those tend to be either super hot or super cold. In the middle you got the big Sunbelt markets which have saw a big run up and then a lot of construction. So they've cooled off significantly of late.

Speaker 2: 19:00

So with the Midwest they didn't really cut rents in COVID to sit pretty flat. But then in the kind of inflationary period of 21, early 22, they still saw a big pop in rents, but it wasn't near the 15% national average. And then now we've seen is that they've kind of normalized back in that 2%, 3%, 4% range for the most part. Well, much of the rest of the country has gone flat to negative. So yeah, I think for anybody who's a commercial real estate or housing investor, I think that it kind of makes the case for some geographic diversification in the national or regional portfolio. We have markets like that that are just more your steady eddies. They're much more lower supplied markets as well, so you don't have the same dynamics or renters suddenly have this massive influx of options and long term they're not going to be big outperformers.

Speaker 1: 19:57

But there's something to be said for the slow and steady, other than the obvious they are just building more of the ply, what ends up being sort of a catalyst for downturn, like a real broad-based systemic downturn in rentals.

Speaker 2: 20:10

Yeah, so it's interesting because that's a good question, because right now is, I think a lot of people don't fully appreciate this moment. I mean, this is the first time in 40 plus years where we've seen enough supply to really move the needle on multifamily vacancy and rents, because there's just against so much supply and in the past few couple of decades I would argue that the supply really wasn't that significant. It looked significant, it might have looked significant on a chart that was cropped since the 1990s or something, but it really wasn't that significant in the big picture. Now, when you look at past downturns, it's really simple.

Speaker 2: 20:49

The rental housing is not a complicated business. It's really it's all about demand and all about supply. So it's supply and demand. And you look at the past downturns, they've been correlated to recessions. We had a brief one in 2020. We had a big one in 2008, 2009. That took some markets multiple years to recover from the early 2000s tech bust, and so it's really it's the biggest risk I think for the rental housing space is we're adding all this supply and then if we do hit a recession, so you take out a lot of the demand. At the same time there's peak supply. That's when you really have big challenges for rental housing operators.

Speaker 1: 21:28

Right. It's basically the double whammy of the time he hit kind of all at once. Is there any of this suggests that there's a leading indicator aspect when it comes to rental prices and the economy? So housing starts are correlated, but go forward basis Right. Do you see the same dynamic when it comes to rental pricing changing across the board?

Speaker 2: 21:48

Yeah, it's really more correlated with the kind of vacancy rates overall which they're going to have function to do or trace back to both the combination of supply and the demand drivers. And those drivers can really vary a lot by market. In a place like South Florida they're pretty correlated with discretionary spending, things like retail sales and other markets. It's more about in migration and population growth and jobs, and particularly that's the case in most of the Sunbelt markets, and so there's not one clear indicator. But certainly if you watch the, where vacancy is going, that's going to be it's very much momentum based kind of phenomenon. When your vacancy rates are going down, that's putting upward pressure on rents. When vacancy rates are going up, that's putting downward pressure on rents.

Speaker 1: 23:05

Yeah, it's heavy note also is being that you want to touch on the big drop in starts that's happened and what the long term implications are. I'm just going to say starts. I'll talk about how these start, but this has been sort of interesting dynamic. If you notice from my picture I have lumber on my right eye because lumber tied and very correlated to housing starts, why it's a risk on, risk off indicator. But talk about where the direction of housing starts is looking like it's going and why that could be a big deal.

Speaker 2: 23:38

Yeah. So I think again, I think we need to kind of appreciate the moment that we're in. This is a unique period where there's so much of this generational high and supply that you know. Personally, I just don't think we're going to see again, at least in my career. I think it'll be a few decades before we do. It's just this.

Speaker 2: 23:52

You know, there's too many things that have to happen to have too many dominos have to fall to see another million units come back under construction at any time in the near future. So when you look at what's under construction right now, you know we're at the point where in 23, we completed more units than we started. Starts were down and in terms of multifamily it starts down about 40% year-over-year. You know we see that in our own data as we track individual projects across the country. The sense of data was down quite as much, although they're only sampling a small percentage of permit holders and making some assumptions based on that. You look at other private data collectors like CoStar. They're showing similar trends as us. So multifamily starts really dropped off last year, you know, as debt got more expensive and all these in the apart market soften quite a bit last year and that made it harder to get deals moving forward. And so the point being with that is that there's still ample construction which is going to lead to a lot of supply completing this year, and so from a renter standpoint, that means it's going to be, you know, the balance of power shifted. You know renters have more options. For an owner-operator standpoint, that means it's going to be a slog of a year. You're competing, you know demands out there, but you're competing with more competitors for a piece of that demand and to get into fill units. There's a big focus on heads, on beds. You just get an occupancy full and what you go forward from that you know starts are.

Speaker 2: 25:14

You know start state for a apartment building it takes, depending on where you are on the project, it takes 12 to 24 months for these projects to complete, and so I think the kind of the warning sign to watch for is that starts continue to drop off, which we expect they will this year. And then it's part because the high cost of debt is very much an availability of debt too. We think some of the untargeted pressures on banks who do a lot of the construction lending, that it's been one of the you know kind of the collateral, some of the collateral damage here. So there were fewer starts. That means by the time we get to second half of 25, 26, 27, there's probably going to be a lot less supply hitting the market. We may even see below average supply by that year, which would then lead to reduced vacancy and more upward pressure on rents.

Speaker 2: 25:59

Now to be clear, I don't think it's going to be like 21 again. I don't think we're going to see double-digit rent growth. But I do think you know by the time you get to those period, those years, you know if the economy is in good shape. I think you could very, make a very plausible case that rent growth is, you know, at least back in the mid-single digits again, and so that story can really shift quickly. You know, based on supply, we're seeing the impact of supply now, but we're going to see the we're going to see the inverse of this unless we figure out how to get more housing starts going against, particularly on the multifamily side.

Speaker 1: 26:31

So you just you were kind of going full circle on this point about, you know, mid-single construction lending. How does, how does what's going on with the regional bank impact that side of things? Because, as I understand it and I put out some material on this in the Lintlag report right, there is a link between credit availability on the regional bank side and construction, right, Most, I think a lot of credit comes from the regional side, not from the big banks. I think that's a complicated factor too.

Speaker 2: 26:56

Yeah, and it really is again. I'm glad you brought that up. So, just, you know, just as a brief primer here and the apartment world and multifamily, most of the debt comes from non-banks or not traditional banks. They have banks that only hold about a third of what we'd call stabilized multifamily debt, so that would be completed apartment buildings Most of it is. You know, the bigger pie would be Fannie Mae, freddie Mac, as well as you know, life insurance companies and other entities like that, so, but when you look at construction the GSCs Fannie and Freddie they don't do construction loans.

Speaker 2: 27:28

Most of that, as you rightly pointed out, comes from regional banks, and what's happening is that the banks are feeling they're getting pressured by regulators to cut down or to reduce exposure to commercial real estate, and some of that, obviously, is construction, and I think the problem, though, is that it's sort of what I've noticed from this. I've read some of these regulatory notes, and a lot of them, I think, do a bit of an injustice to the industry and don't really think through the implications, because what they're doing is sort of lumping everything together, right, you know, office and multifamily are all part of the same pool, and even within multifamily there's a, I think, rather shocking inability to draw distinctions between different levels of risk, and I'll give you an example. One of the things, probably the most important one, is that you look at the signature bank portfolio, you look at the New York community bank portfolio. A lot of that is rent stabilized apartments in New York City, and anybody who's had exposure to that segment of the market knows that those assets saw tremendous valuation loss due to a 2019 change in city laws related to how rents are set in rent stabilized apartment buildings, and so that really, when you reduce the value of those buildings, obviously that impacts them value of the loan as well, and that has created some of the challenges In addition, other factors that are impacting New York City's rail market right now.

Speaker 2: 29:00

So that segment of the market is undoubtedly riskier than other parts of the multi-family market I mentioned there, like the Midwest being healthier and whatnot as well. So I think there's got to be a better way to draw some levels of nuance, see the gray, and not just to make everything black and white. That isn't black and white. And just one last comment on that too, is when you look at the call reports the banks are required to file every quarter. They look at sectors, they do not look at geographies, and anybody in real estate knows that location I mean real estate's location, location, location, location is everything. And the fact that banks are not reporting on location, only on sector, I think is problematic and can lead to some false conclusions.

Speaker 1: 29:47

Let's talk about the impact of all this when it comes to inflation, cpi and, ultimately, fed policy, because there's always lag defects. I mean my handles lead lag reports. I'm a big fan of thinking about what leads the lags. So, okay, let's talk about just in general, for those that are not aware. I mean, I'm aware of it, but talk about how being a contributor, housing shelter, is to CPI and how the pricing in terms of that nationwide impact what the Fed does.

Speaker 2: 30:15

Yeah, yeah, so its shelter is about a third of the CPI in terms of waiting. And back in 1981 there was a big change made to how we calculate inflation in the US peak inflation in the 1970s. That included home prices, and so that was contributing to some of the volatility. And so the economists and the policy makers back then said, hey, this is more of a capital expense, not a day to day consumer expense. We're going to take this out of the pie. And so they instead replaced it with a much higher waiting on rents, both with two categories rent of primary residence, which is your typical renters, and then owners of equivalent rent. And just as a brief note on that, a lot of people think owners of equivalent rent is just a survey of homeowners asking what they rent their houses for, and that's actually not true. That survey is really about waiting, the cost of shelter and the answer is not necessarily directly actually not necessarily is actually not used to determine what the owner's equivalent rent actually is. That is, that rent number comes entirely from a survey of renters, and so because of that, you know, rent is arguably the most important variable in the largest category of CPI, and people kind of ignored this for a few decades, just because you know the numbers had been intentionally quite stable. I mean, they were really designed to be stable and so, and then we get into these last few years and they weren't.

Speaker 2: 31:41

And so what's happening is that one reason it's stable is that the way we calculate rent and shelter and the CPI is that's a lag indicator, as you alluded to. And so what they're trying to do is not calculate, is not the change in rents that we report, you see, in headlines. You know, just typically about the new lease rent, what they're doing is trying to calculate the change for all renters. But the problem with that is that most renters don't see their rent change but let's say, you know, once a year, and so any incremental change in rent from month to month really doesn't move the needle very quickly. It takes a year or so to really feel that, and so there's about a one year lag and this isn't you know, this isn't just me saying this, there's been studies that kind of show this, not a secret there's about a year lag between what we call the headline asking around, the new lease rent with someone paid a sign of lease, and what we see in the CPI and the you know.

Speaker 2: 32:31

One last point on that, though, is, if you think about it, you know there's, you know it's not, it's not indefensible why we do that, but it does create some implications, because it is the only major metric in CPI where you know the price you see today is not necessarily the price that you. That's being reflected in the CPI, and so because of that too, whatever the Fed does, it can't really impact that number very fast. They can only impact, really, the new lease rent that's being. You know that's the rent that's actually being set. You're not changing someone's rent who's already in place with you know nine more months left on their term.

Speaker 2: 33:02

And then one more last thing. I already said this once, but the other thing people will know about it is this survey only goes back to the same renters twice a year, every six months, and so even if their rent changed in month two, they're not going to catch capture that until the sixth month, and so it adds further lag. So we know it's going to slow down, it's continuing to slow down, just going to take a while to get there.

Speaker 1: 33:21

Right, as I'm hearing you. The idea basically is that it's pretty much the biggest contributor but also the least real time, obviously, because it's much more retail right so, but obviously the Fed reserve knows that, which is why they look at absolute. But the question then becomes, going back to your earlier point, so you've got all of the supply and maybe it coincides with a recession. That sounds like then you could actually see maybe conceivably, you know some real downward pressure on CPI when that actually gets updated and they maybe give us negative prints.

Speaker 2: 33:52

Yeah Well, I will say that again, because it's designed to be fairly smooth, metric, it's not going to go. I don't think it would really go negative because it's also counting for renewals and not to get too technical here. But renewals are typically priced below, kind of below, the current market rent, and so you can still see your renewal to grow, you know, say 2%, even if your new lease rents are negative, because there's still a gap there in terms of the nominal rent. But you're right, I think, as you look over the next year in fact you know even Sharon Powell I was on his last press conference he said you know that every forecast is showing this will come down. They know it's going to come down, just a matter of how fast. And so there's a lot of other things could change. But you know, we know with pretty good certainty that that shelter is going to be less and less of an upward driver on inflation going forward.

Speaker 1: 34:39

Yeah, I think that's important because that does impact some of these narratives that you hear around. We could have another wave of inflation. Everyone seems to overlay the 70s to what happened here and you know the idea that it might have another multi-year period. But I mean, I don't know how the 70s look. Maybe you do, but you know it doesn't seem like that that that's a likely parallel, just given the way the rental and housing dynamics are today.

Speaker 2: 35:04

Yeah, I would agree. Again, my expertise is more in the third of CPI that's specific to housing, not on the other two thirds. But I think you know again back then in the 70s, people have to realize when they talk about this stuff that it's not the same methodology. I alluded to this earlier. The CPI is not calculated the same way today as it was in the 1970s and it was really again designed to be more smooth and less volatile. And you could argue that's right or wrong. That's just what it is and so it's much, my point being that you certainly could make a case there should be acceleration of their categories. For the same time, there's for sure going to be continued down, nearly for sure, the downward movement on the shelter side of it, and so it would just be. It'd be a more difficult scenario to see another significant and it makes me go up a little bit but it'd be more and more difficult to see a significant upward blip and upward momentum in CPI today than it would have been in the 1970s.

Speaker 1: 36:02

So we talked about the Midwest as having its moment. Let's talk about part of the country where things are starting to really turn around in a much more negative way, sort of the opposite end of what the demand is right, when it's getting to be more shocking on the decline side. But what areas are you seeing that are getting some real weakness?

Speaker 2: 36:21

Yeah, it's really about where the supply is going. So you look at some of these really hot markets and a place like Austin Boise, a lot of these kind of smaller Florida markets, like places like Southwest Florida, naples area, these kind of spots. We've seen rents have come down quite significantly as vacancies have gone up. And it's interesting because typically think about housing people think about homes, that homes aren't being sold or people aren't coming to the air anymore. And this is again it's really interesting because it's really not about demand. There's still good demand in these markets. There's still magnets for people.

Speaker 2: 36:57

It's normalized, it's not like the COVID crazy anymore where everyone's moving to Austin from the Bay Area and I say that somewhat tongue-in-cheek because obviously it was always probably a little more overstated than it was. But even on the downside, while it slowed down, it's not like that funnel's been shut off completely and so there's still good demand. These spots are going to be fine the long term, but in the short term I mean the supply numbers are just absolutely incredible. I mean just huge numbers of new parts being built in these markets and that's what's really pushing down these rents and in giving, like I said, renters a lot more options in the market these days. In many cases, renters are able to pay a similar, maybe slightly more, rent for a brand new apartment that's highly amenitized and maybe better located, and they're moving from an older property, maybe a lesser well-located area, and they're paying similar rent, and so it's a great market for them. But it's obviously going to. It's putting a lot of pressure on operators of these apartment buildings.

Speaker 1: 37:59

But nothing that would be considered distressed across the board, right, and you're still getting residual demand. That's putting a little bit of a floor even in that context.

Speaker 2: 38:08

Yeah, you know anything about true distress. You know there's kind of a in the apartment industry. There's a general view that the real stress is going to be among those who bought at peak pricing with short-term floating rate debt. So if you bought in, you know 22, you know with, you know prices that are 30% higher and you, you know, had a you know two or three year initial term and assume a much, much lower debt costs. You know those groups and then also, on top of that, had an aggressive value ad bargain, which means you'll put a lot of, you're planning to put a lot of cat backs into the project to upgrade the, the property and then raise the rent Like those. Those types of projects are very challenged and that's where I think we're going to see some real stress. But in in, generally speaking, I think this is more a year of stress than distress.

Speaker 1: 38:56

I want to go back to. Rental housing is essential and misunderstood, that we need more of it. Because you're doing this obviously for a living, for a career and you've got a lot of research. What are some of the things that people often get wrong about rental housing that drive you absolutely crazy? What do you hear them say that?

Speaker 2: 39:13

Well, thank you for that question. I love that question, you know. I think I think one thing, just to the way of starting this, is that I mean I was probably just as ignorant as anybody else in this topic when I got into it and, and just to give you kind of a brief background, you know, I, I I took a job as a research analyst back in 2009, doing this stuff really just because I needed a job, and it was 2009,. You could be a beggars, couldn't be choosers, and so I learned a lot along the way. And you know, one of the things that I think a lot of people think is that people rent because they have to, not because they want to, and and you know, every renter is a want to be homeowner, not just eventually, but right now. And you know we look at the landscape. I mean, you think about who lives in, and I'm just going to focus on apartments for a moment here. You know these are generally people who are in a life stage of row of renting, that the median apartment renter is 32 years old, and so you have, you know, 10, 10, 10,. You know millions of them who are in their 20s. They're not in a life stage to buy a house, even if they want to.

Speaker 2: 40:09

You know we commissioned a survey last year. It was, you know legit consumer research group called the Center for Generational Kinetics. So this is one. This is not some you know survey monkey poll, it was you know way to the census, demographics, all that kind of stuff and it was really interesting. It showed us.

Speaker 2: 40:24

I just pulled this up so I can share you some stats here. It showed that 69% of renters say there's unfair stigma towards renters and renting in America. 72% say that older generations view renters more negatively than they view homeowners. So they feel that bias. You know, I feel like a lot of times, especially on X slash Twitter, you know I see a lot of you know kind of anti rental. You know bias. That's really, you know, kind of anti renter. It's like you know the like we sometimes treat renters like second class citizens and renters feel that and they don't like it. And 63% of renters in the survey said that they rent for reasons other than not being able to afford to buy a house. Like you know, there's like a life stage and lifestyle reasons for doing that and some of them may be eventual homeowners, would not yet, and half a renters multi-only renters say that renting gives them more financial freedom. And you could debate that, say they're wrong and that's totally fine. That's how they feel and personally I think some of them are going to change their minds in 10 years and be homeowners, but from where they are right now, that's that they, that's that's their perception, especially if they want to, if they value flexibility and moving different places.

Speaker 2: 41:24

And then a couple of other things that I think is really important is, in the survey we found, 72% of renters said they have a positive relationship with their property managers and we all hear about the 28%.

Speaker 2: 41:33

And then you know there's definitely you know we all see the headlines. I mean there's definitely some crazy landlords out there, there's some crazy renters out there, but they're the, they're the exceptions to the rule, and so you know, by and large, it's not this adversarial relationship that gets portrayed all the time, and I think that's another just kind of really important fact to understand is, in fact, you know apartment companies out there and single-family rental companies. They track reputation. The reputation is a big thing. That is is is a big kind of metric that people that these groups watch and they don't want to have bad reputations and they work to try to have a good reputation, and so and and. So that's, I think, another one that is really important. So you know, I could go on and on with this stuff. I think there's. I can, you know, sometimes think I need to write a, write a book not that I ever will on just all the myths associated around housing and renters. But those are just a few of my favorites to start with.

Speaker 1: 42:21

Yeah, and I'm going to do that. Maybe one of the other myths is that you know, if anyone who's in the White House, that'll change dynamics when it comes to rental price trends. None of that really holds true, I think, historically.

Speaker 2: 42:32

Yeah, I mean, yeah, you're right, I mean the rent. Rent is really a function of supply and demand. I think there's other factors that the White House can control, you know, I, I think, but but really a lot of it's supply driven. And I think one thing that you know, this current White House has proposed it hasn't gotten momentum, unfortunately is substantially increasing the supply of affordable housing in the US, and that's something that can really move the needle, but have not been able to get congressional support for that.

Speaker 1: 43:00

Jay, if those who want to track more of your thoughts from where you're working see some of your research, where would you point them to?

Speaker 2: 43:05

Well, thank you. Yeah, definitely follow me here on X at Jay Parsons. I'm also actively posting on on LinkedIn as well, so you could find me either one of those spots and and yeah, always happy to to just have questions of my way on the social media. I'm happy to answer what I can too.

Speaker 1: 43:23

Again. Folks, this is going to be an edited podcast on Lee Lag Live. I'm going to wrap it up here. Jay, really do appreciate the insights. I rarely do spaces on this side of the of the property, housing, end of things, rentals obviously, but this was, to me at least, was very educational. So thank you for joining here. Yeah thanks for having me. I really appreciate it. Thank you, buddy. So for that open discussion please.