Workforce Housing Outperforms But Experts Disagree Why

Workforce housing has a reputation for being a steady asset class for investors that appreciate its reliable cash flows.  Most residents that live in such housing are the backbone of cities and towns, serving indispensable roles such as teachers, policemen, and firefighters. Therefore, their jobs tend to be resilient during any economic headwinds, “offering a degree of recession resistance compared to more cyclical sectors,” according to a report by Cushman & Wakefield. 

But how does the asset class fare during times of both high inflation and a job market that appears to be tightening? C&W has been monitoring this situation – particularly the inventory under its purview  – and it reports that so far the effects of these dual forces has been minimal, if that. 

“The pinch of inflation tends to affect Class B renters more, which is why we consistently analyze our dataset for weaknesses that would signal an underlying frailty in the economy,” it said in its report. “Thus far, we haven’t found one.”

C&W said its team tracks the reasons that its renters are moving out—namely the number of Class B residents moving out for cost reasons as a share of its total Class B move-outs. “Historically, the data is volatile, but we’ve observed the broader trend level out in the last few months around a sustainable 6.5%–down from more than 8% last year. Similarly, we’ve seen little reason for concern when it comes to delinquency.” C&W could not share the overall delinquency for  confidentiality reasons, but says the trend is telling: there has been a clear downward shift in delinquency among Class B renters over the past year.

Across Cushman & Wakefield’s multifamily portfolio, occupancy at its Class B communities continues to be strong – about 65 basis points higher than the broader portfolio’s stabilized occupancy.

In fact, demand has increased for these properties as more renters seek out affordable housing and as Class A renters seek out cheaper housing in the face of increasing rents.

“Those living in Class A residences stand to save an average of about $540 per month by trading to a Class B apartment, a 30% savings,” according to Cushman & Wakefield, which is wider than the $340 historical average.

But other feet on the ground disagree with some of these conclusions. 

Jay Lybik, national director of multifamily analytics at CoStar Group, for example, tells GlobeSt.com that it is Class A multifamily residents that have the lowest rent-to-income ratio in the sector.

“For most Class A properties, it hovers near 20% compared to Class B and Class C which tend to be 30% or even higher,” Lybik said.

“Thus, these Class A residents are in the best position to absorb rent increases.” Lybik says he has no evidence of Class A renters “trading” down to Class B properties to save money. “As a matter of fact, Class A absorption has increased in each quarter so far this year.”

Masoud Shojaee, CEO and Chairman of the Board at Shoma Group, agrees, telling GlobeSt.com that he’s seeing renters at his Class A projects staying longer than ever.

“In the post-pandemic rental market, many renters now prioritize safety, cleanliness, and outdoor space and amenities, which has prompted some B renters to reassess their living situations.”

Lybik also argued that Class B renters have, in fact, been impacted by inflation.

“We saw that very clearly in the 2022 absorption,” Lybik said. “Class B absorption ended the year in the negative. One sign that these households struggled to afford the increases from 2021 and the beginning of 2022. In some cases, Class B residents moved in with a roommate, moved back home with parents, or in some cases moved to the cheapest unit available in the property that they already lived in.”

The crux of the matter is that Class B rents outperform because  its residents have a highly inelastic demand, according to Lybik.

“Thus, owners keep raising rents because these households have limited to no substitution alternatives,” he said.

“They must find other expenses to be cut in their budget to cover the higher housing cost or they will not have a place to live. It’s not a great situation to be in for these households at all but that’s the unfortunate reality.”

Indeed, during times of uncertainty, properties that compete on value like workforce housing will naturally perform better than those at the top of the market, Omar Rihani, Executive Vice President and National Residential Sector Leader at Project Management Advisors, tells GlobeSt.com.

“Demand for value shrinks the rental gap between Class B properties, which will naturally look to push rents, while Class A properties respond by reducing rents to attract/retain tenants,” he said.