At the outset of World War II, Winston Churchill faced a daunting decision. With relentless air raids threatening London, he had the unparalleled responsibility of choosing between focusing his resources on defense or looking ahead to rebuild and strengthen Britain's infrastructure for a post-war future. Churchill knew that short-term survival was crucial, yet he also saw the value in preparing for a prosperous future once peace returned.
In many ways, multifamily investing is like Churchill's approach—balancing the immediate need for strong investment opportunities with the potential for long-term asset growth. As investors poured over $200 billion into multifamily assets in 2022, you might have asked yourself: “Why are so many choosing multifamily, and where should I start?"
Investing in apartments can be a valuable opportunity when guided by sound investment criteria and a strategically chosen market. To be successful, it all starts by deciding to invest in multifamily, establishing investment criteria, and selecting a market.
Deciding to Invest in Multifamily: The Extreme Benefits of Multifamily Investing
Imagine investing in an asset with the low-risk profile of bonds that yields more than twice the returns. Multifamily apartments offer this unique opportunity by combining the extreme demand for apartments, returns from cash flow and appreciation, and a lower-risk investment profile than stocks.
As such, multifamily investment opportunities open the door for investors to deploy capital in an asset that matches the stability of bonds while outperforming them in returns. Kevin Oklobzija of the Rochester Business Journal, explains that “reliable returns are one reason multifamily has remained a hot commodity while some sectors of the commercial real estate market—such as office— face uncertainty.” This stability, coupled with strong demand, makes multifamily investments particularly attractive in today’s market, offering a resilient alternative in uncertain times.
Extreme demand for apartments
Whether you are from Denver, Rio, or Shanghai, we all share the basic need for food, water, air, and shelter. As the global population grows, the demand for these essentials increases, often leaving some of these needs unmet. Figure 1 illustrates the housing deficit in major regions around the world.
In Figure 1, we see that in many cases homelessness is becoming a more prevalent issue all around the world. Over time, this lack of homes adds up, and we need to do something about it.
According to Orange Investments' Carlos Rousseau, the rising generation is creating a housing deficit of almost seven million units across Latin America. In the U.S., the deficit has grown to over 4.5 million.
The rapid growth of the middle-class population and a shortage of sufficient housing create significant opportunities for multifamily real estate investors to help bridge the gap.
Returns from cash flow and appreciation
Multifamily assets produce income through two main streams, cash flow and appreciation.
Cash flow: Income is collected from rents, onsite amenities, and utilities every month. After all expenses are paid, the net operating income is distributed as cash flow to the owners.
Appreciation: The value of multifamily properties can be increased through capital improvements, addressing deferred maintenance, raising income, and reducing expenses. Returns from appreciation are typically realized during a refinance or upon the sale of the property.
Multifamily apartment investing is beneficial because it improves communities, provides better living conditions for residents, and generates returns for investors—creating a win-win for everyone.
Lower risk investment profile than stocks
To evaluate the risk-to-reward of various investments, economist William F. Sharpe developed a matrix that he fittingly named the Sharpe ratio.
Using the Sharpe ratio, Figure 2 compares the returns offered by major asset classes and the risk each takes on.
Figure 2 shows that while some asset classes offer higher returns, they also carry significantly more risk, highlighting the trade-offs investors must consider when deciding where to allocate investment capital. Multifamily sits right at the top, holding almost as little risk as government bonds, at almost twice the average returns.
Seeing that multifamily apartments yield returns from cash flow and appreciation, and carry lower risk than stocks, makes them the obvious choice for many investors. This brings up the next question: “Where do I get started if I want to invest?”
Establishing Investment Criteria
When you go to buy a car, what kinds of things do you look for? Probably price, the year, miles driven, miles per gallon (mpg), and various other features. Different questions may be more important to one car buyer than the next, yet there are certain criteria that every new vehicle owner must consider.
The same holds when evaluating multifamily apartment investments. Two principles that all apartment investors must understand are that your market criteria set value, and net operating income drives value.
Market criteria set value
Business owner and real estate legend, Robert Kiyosaki said that you “make your money on the buy, not the sell.” Before investing in multifamily, it is crucial to consider the criteria upon which you evaluate various markets.
Take each of the following into consideration when deciding on a market:
Population growth: Should be above the U.S. average of 0.6% and the higher the better.
Job outlook: This should also beat the U.S. average of 5-8% growth and the higher, the better.
Rent to household income ratio: Must be below 30% and the lowest possible is the best.
Median one-bedroom rent: As close to the U.S. average of $1,556 and below is better.
Rent growth: At least 1.5% and higher is better.
After evaluating potential markets using these benchmarks, find your top three, then check out some of our favorites of the best places to invest in multifamily here.
Net operating income drives value
Market criteria are the first half of the equation. Once determined, we can evaluate property criteria such as purchase price, capitalization rates, vacancy, expenses, and net operating income. In this article, we will focus on the primary value-driving indicator: net operating income.
In Figure 3, we see that the same apartment complex, purchased for $800,000, operating at different income levels ($50k and $150k) can be valued drastically differently.
Figure 3 illustrates that increasing NOI by $100,000 can increase the property value by $1.6 million. When selecting properties to buy, the potential to increase NOI must be a main consideration.
Selecting a Market
Michael Jordan, Babe Ruth, and Muhammad Ali each excelled to become the greatest in their sport. If Michael Jordan had tried to juggle basketball, soccer, hockey, and boxing simultaneously, he wouldn’t have become the greatest player to ever step on a court.
Even though multifamily investments consistently out-perform many other assets, according to Mehul Chavada, the Chief Investment Officer of Casoro Group, “investors and developers must remain vigilant of economic indicators, regulatory shifts, and market-specific dynamics to navigate potential hurdles and capitalize on opportunities.” (Chavada, 2024, p. 139) While multifamily may offer investors high returns, the individual market dynamics can make or break that average.
When first investing in apartments, focusing on one market at a time is essential for maximum effectiveness. This involves comparing market criteria and then investing in the chosen market.
Comparing market criteria
Now that we have selected three to five potential markets that fit within our desired criteria, we must evaluate each one in comparison with the others. Additional metrics to consider now would be proximity to home, travel costs, existing network connections, and major market advantages.
Proximity to home: Assets in a market near your home will be much easier to manage. Communication and operations management will all be easier if you can be physically present, especially when buying your first apartment complex.
Travel costs: Reducing unnecessary costs will be crucial for your first deal. Imagine paying for flights to visit your property every week for a year. That is money you would rather invest directly into forcing the appreciation of the property.
Existing network connections: Make a list of all the real estate brokers, lenders, property managers, investors, and owners that you know. Factor their experience and where they live into your decision.
Major market advantages: If you find a market with a significant advantage in population, job, or rent growth that you believe you can capitalize on, take this into account. See an example in Figure 4.
Figure 4 compares population, job, and rent growth in four major U.S. multifamily markets to the national averages across the United States.
In Figure 4, we see that across the U.S. job growth is the highest growth factor of each market. Job growth is followed by rent growth, then population growth in all but one city. It is worth noting that even in large, growing cities—such as Dallas—rent has been declining, showing a saturation of rental properties in the market.
This is why an in-depth analysis of each chosen market is essential before going through with the purchase of your first property. Getting stuck with an asset that you cannot achieve cash flow or increase in value would devastate you and your investors.
Investing in the chosen market
The final step in the process is to go and do. If you are completely new to this and never purchased a property before, check out our article on how to buy apartment buildings with no experience. Once you have decided which market you want to focus on, begin by following the five steps outlined below:
1. Develop Relationships in your Market: Begin forming relationships with investors, brokers, and property managers in the area where you are going to invest.
2. Analyze Apartment Buildings: Build a flow of deals to analyze for investment potential.
3. Submit Offers: Start submitting Letters of Intent (LOIs) on properties that meet strict investment criteria.
4. Buy the Apartment Building: Raise capital and get funding for your first multifamily deal.
5. Manage Your New Asset: The property manager will do most of the heavy lifting from here. You manage physical improvements, finances, and investor distributions.
Conclusion
The beauty of multifamily investing is that both passive and active investors can collaborate to create mutually beneficial opportunities. Passive investors want to earn returns without getting involved in the work, while active investors with limited funds need capital to close deals.
By working together, passive investors provide the necessary funding, and active investors bring the knowledge, effort, and time to manage the investment.
Whether you have money but no time, or no money but a willingness to work, multifamily syndication opens the door for a wide range of professionals to participate and benefit from real estate investing.
Ultimately, multifamily investing offers a unique opportunity to build wealth by tapping into the growing demand for housing, generating income from both cash flow and appreciation, and minimizing risk compared to other asset classes.
Success in multifamily real estate begins with deciding to invest in multifamily—whether that be passively or actively, establishing investment criteria, and selecting a market. By taking informed action, and selecting properties with strong net operating income potential, investors can improve communities, provide better living conditions, and generate significant returns for all stakeholders.
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