Beverly Hills Multifamily Market Heats Up!

Industry reports suggest the giant federal stimulus and rising inflation are pushing rents higher. But the story is complicated: Midwest and sunbelt cities are seeing the greatest percentage increases followed by big-city suburbs. But the most concerning aspect of today’s changing rental market is the effect of macroeconomic pressures on lower-income households and and the lower-quality apartments we inhabit. Let’s take a look.

Inflation on the Rise

The most recent available data from Bureau of Labor Statistics for June shows that the cost of rent in our Los Angeles-Long Beach-Anaheim is rising again (up .6% over a year earlier) as we climb out of the pandemic. But the cost of rent is but one component of CPI.

Consumers are also paying higher prices for energy and utilities — goods that saw a double-digit percentage price increase compared to last June — so that observed .6% rise in the cost of rent alone doesn’t tell the whole story about housing costs. (We’re also paying more for many goods and services too. The cost of private transportation increased 18% from last June which for many households means a sharply-higher cost of living.)

When rents rise it adds to an upward spiral of inflation and housing costs because rent is a key input to CPI (housing costs comprise a significant percentage of a household budget). The rising cost of rental housing has helped to push the index higher, and because the same index establishes the maximum allowable annual rent increase in Beverly Hills, we will see rents allowed to rise by 3.9% this year compared to the last increase of 3%. (Read more about how the rent increase works.)

Moreover, the cost of rent is a component of consumer prices that exerts a relatively long-lasting effect on inflation. Where energy, utilities and transportation costs are highly variable, rents once established tend not to fall. Economists call the cost of rent “sticky inflation with staying power.” So the rising cost of rent we see reflected in CPI will be a higher household cost that will be with us for quite a while!

Tale of Two Rental Housing Markets

CPI measures the cost of paid rent, of course, and it suggests the direction for rental housing costs broadly. But it does not survey asking rents and the asking rent is actually the leading-edge indicator of rental housing costs tomorrow. Industry surveys are crucial to understanding the market in detail.

Industry data collected by CoStar suggests two diverging rental housing markets. The rent for luxury units in Los Angeles County is declining — down 1.2% from last March — while rents nearer to the bottom of the ladder are on the rise — up by 1.1%. Vacancy rates are also down across the county to 5.8% from 6.2% in November. That is expected to put upward pressure on rents.

Explanations are speculative but economists point to the relative difference in mobility and earning power between classes.

Some better-paid white-collar households have migrated out of cities to find comfort and amenities in big-city suburbs or to take advantage of lower-priced housing markets in the Midwest and sunbelt. Secondary and tertiary cities are relatively hot rental markets these days! The reduced demand in the luxury tier has put downward pressure on asking rents and so prices have declined for luxury renters.

At the same time, lower-income households were not as mobile during the pandemic. They engaged in lower-paid work in personal services that are necessarily local; or depressed earnings or uncertainty during the pandemic kept these households in place. The reduced supply of relatively-affordable apartments kept rental prices in this tier higher.

The pressure at the bottom of the economic ladder has put real pressure on these households. Indeed it is a tale of two rental housing markets! Luxury renters have greater choice and lower prices while budget renters are competing for a relatively limited number of available units at a higher cost.

Taking advantage of the higher demand and higher prices in the budget tier we see landlords hiking rents. The 1.1% rise across Los Angeles County belies the much more significant increases we see anecdotally in Beverly Hills. It is not uncommon to see a modest 1-bedroom unit rent for $2400 and a 2-bedroom rent for nearly $4,000. Townhouses routinely ask between $5,000 to $10,000 monthly.

Precariously Housed Most Vulnerable

On the darker side, we are seeing evictions on the rise. Lower-income renting households were much more likely to be evicted during the pandemic (despite eviction moratoriums). An investigation by CalMatters tallies ten thousand households statewide that were evicted during the Pandemic with one-third of those lock-outs coming in the first three months of 2021.

The figures don’t capture households that were evicted for fault, or that voluntarily departed for whatever reason (perhaps rent arrears and pressure from the landlord). Regardless of cause it is clear that there is much involuntary instability at the bottom rungs of the economic ladder and that is certainly true in Beverly Hills where much of the rental housing stock is older and of lower quality (‘Class C’ in industry parlance).

Tenants on the lower rungs of the economic ladder who are evicted or ‘self-evicted’ (the term that describes pressure applied by the landlord to voluntarily vacate) will find a rental market more challenging than before. That is a reminder: budget households should understand that the most valuable investment we have is our own tenancy. Don’t sign it away for a low-dollar buyout!

Ominous Sign from the Market: New Buyers

Tenants don’t only have to worry about market competition amid tight supply and the resulting rise in asking rents; these tend to be cyclical factors that vary somewhat with the economy. We also have to acknowledge that the market may shift underneath us.

A major cause for concern that emerged over the past decade is the entry of corporate actors and private equity into the single-family housing market. Funds that control tens of thousands of homes scooped up after the recession can raise rents and that was a focus of Sacramento legislators when they passed state rent control. It prevents corporate and other such entities from raising rents while allowing individual owners an unlimited annual rent increase.

Now we are seeing private equity and corporate owners take renewed interest in rental properties and specifically the kind of Class C buildings that were the bread-and-butter of mom-and-pop owners. And it’s not happening in secondary markets somewhere far away; it’s happening right here at home.

A recent article in the Los Angeles Business Journal heralded the turn in the headline: Small Apartment Buildings Attract Big Interest From Investors. Why? Because there is plenty of price upside when older buildings are remodeled (it’s called ‘market repositioning’).

“What most investors are looking for is typically the value-add, long-term investment where you can go in and do a cosmetic value add, maybe taking the property from a C to a B over time,” Dan Blackwell, an executive vice president with CBRE Group, told the Business Journal. Interest in small apartment buildings is “at all-time highs.”

A second factor is that it is very difficult to build in our region: the cost of land is very high, parking requirements add cost, and the cost of labor and materials is on the rise. Walking into a property with a strong net operating income would seem like an easy call for a fund or corporation with plenty of money in search of a return better than a T-bill.

“These B- and C-class workforce housing properties, it’s kind of like you’re in a safe asset class because you are buying them below replacement value,” Blackwell told the Journal. “They are not building enough of them to keep up with demand, and they are good, stable assets.” He added, “You can go in as an investor and not do a lot of heavy lifting.”

We can expect to see more of these Class B and C properties in Beverly Hills turn over as longtime owners exit the business (generational turnover) or take advantage of federal tax breaks available to owners when they trade up (a ‘1031 exchange’). New owners will want to juice existing properties for an investment return sufficient to cover the unjustifiably-high asset cost.

Or perhaps investors will look to redevelop the land underneath our relatively-affordable rental housing. In that process we lose the multifamily apartment houses that lend our community character; and the market caters even more toward higher-income tenants who can pay the much higher rents demanded for new construction.

A hot rental market has a way of exacerbating inequities that always existed in our housing market but which were brought into relief most recently by the pandemic. High inflation and new market entrants only promise to accelerate the long-term trend toward reduced affordability and increased displacement