Multi-family real estate is set up for long-term sustained returns given the extreme dislocation between housing supply and demand in Canada and record-high federal immigration targets, said Michael Tsourounis, managing partner and head of real estate at Hazelview Investments, during the Canadian Investment Review’s 2023 Defined Benefit Investment Forum in December.
He noted while Canada needs to build between three and six million homes to restore housing affordability, the most homes the country ever managed to build in a 10-year period was 2.8 million in the 1970s.
Decades of under-building have entrenched a supply problem which is being made worse today due to a combination of an acute labour shortage in the skilled trades, significant population growth driven by immigration and international students and not-in-my-backyard pushback that significantly delays the entitlement process of new multi-family builds. In the Greater Toronto Area alone, NIMBYism has made the entitlement process — of applications, technical studies, site plan approval and building permits — an average of five years.
“The more time [that] gets introduced to it, the more other variables that you simply can’t control start to really drive up costs,” he said, noting that has a knock-on effect for rental prices once the project is built. “When we look at construction costs [and] long entitlement periods, these are things that are massively inhibiting the growth of supply.”
In addition to a growing population, demographic shifts — including rising divorce rates, smaller household sizes and younger Canadians delaying marriage and families — have driven down the multi-family vacancy rate to “near historic lows” of less than two per cent and pushed monthly rental costs up. Rising homeownership costs that have rapidly outpaced incomes are also ensuring Canadians stay in rentals for longer. These shifts make multi-family a valuable addition to institutional investors’ portfolios.
Unlike office and industrial real estate, multi-family properties have a “much more diversified tenant base” that protects against severe disruption to cash flow when a tenant leaves. As well, the asset class comes with shorter duration leases and an ability to transfer rents to market in a quicker fashion, compared to retail or office leases that lock in for roughly five to 10 years.
“Turnover [in multi-family] has slowed but we’re still probably seeing nationally anywhere from high single digits to mid-20s in terms of turnover, so [there’s an] ability to pass through inflation,” he said.
Multi-family property developers are also able to access lower cost capital with financing from the Canada Mortgage and Housing Corp., which reduces financing costs by roughly 100 basis points.
Institutional landlords also only make up about 20 per cent of the multi-family market, with the majority consisting of mom-and-pop investors, family legacy portfolios and developers that built in the 1950s to 1970s and may be looking to sell.
“The highly fragmented market leads, we think, to a lot of opportunity where you can go and buy portfolios that have been severely mismanaged [and] under-capitalized, that typically have large gaps . . . between where market rents are going to be,” said Tsourounis.
Older assets “pose a really good opportunity to have really big outsized cash flow growth” without exposure to risks posed by new development, including higher interest rates, development charges and construction costs that force developers to rent units at a much higher monthly cost.
He said active management of assets — including renovating and repositioning buildings — is critical but “really difficult,” as the owner needs to understand which building investments will have the highest incremental rate of return amid dropping unit turnover rates.
Read more coverage of the 2023 Defined Benefit Investment Forum.