There weren’t many apartment units purchased in the first quarter of this year. In fact, purchases of multifamily properties dropped to the lowest levels observed since the early days of the pandemic four years ago. One clear contributor to this decline is the increased cost of capital – interest rates are considerably higher than they were pre-pandemic. All else equal, higher interest rates limit buyers’ ability to pay top dollar to acquire properties. 

Of course, all else is rarely held equal, and since mid-2022 the average unit price of apartments across the country has declined from peak by about 17 percent. Typically, when prices fall, demand picks back up. So why does multifamily transaction volume remain so stubbornly low?

“…at current price points, there appears to be insufficient demand in the market to purchase apartment properties, which suggests that prices will need to fall further before transaction volume picks back up.”

The Geometry of Price Declines: When Down is Still Up

Multifamily prices surged at double-digit rates from mid-2021 through mid-2022, in part due to soaring housing demand driven by the broad adoption of remote work and the Federal Reserve’s (Fed) low interest rate policy. However, prices began to decline in the second half of 2022 and have continued to decrease since. Despite these more recent price declines, per-unit apartment sales prices remain meaningfully higher than what they were pre-pandemic, too high for many buyers to enter the market given the high prevailing cost of debt.  

Compared to pre-pandemic, per unit prices for apartments of all qualities have exhibited somewhat similar trends. Class A, B and C^[1] prices have all declined compared to peaks reached in the second quarter of 2022, but remain well above their pre-pandemic levels. What varies between units of different qualities is the extent to which prices have corrected. Prices for higher quality, Class A apartments have declined the most, by 18 percent, followed by Class B at 16 percent. 

Class C prices have been more resilient. While Class C prices have also declined, they’re only down by 7 percent from peak, less than half the decline that’s occurred for mid and high-end units. Class C rents are cheaper, more affordable and, therefore, in higher demand by tenants. This resiliency in demand to rent has translated to higher demand to own Class C properties, as reflected by this limited decline in price. The net result is Class C unit prices remain 30 percent above pre-pandemic levels, whereas Class A prices are only 15 percent above pre-pandemic levels. 

Despite the larger declines from peak of Class A prices, they’re still higher than they were. What’s more, the federal funds rate is 2.9 percent higher than the pre-pandemic peak in 2019. With interest rates and prices higher, no wonder multifamily transaction volume is so low.

Something’s Gotta Give

If interest rates don’t move down – and right now it seems that the Fed is willing to maintain a restrictive policy for longer than many anticipated six months ago – then prices will need to decline further for more buyers to enter the market. 

Does that mean that prices need to fall to where they were pre-pandemic for transaction volume to pick back up? Not necessarily. The rise of remote work fueled by the pandemic created an abrupt shift in demand away from office space towards residential space, since residential space can now more easily be substituted for office space. This means that there is likely a higher baseline level of demand for residential space than there was pre-pandemic. Still, at current price points, there appears to be insufficient demand in the market to purchase apartment properties, which suggests that prices will need to fall further before transaction volume picks back up.

^[1] Class A units are typically nicer, newer apartments, possibly luxury apartments, and come with a variety of amenities. Class B units have fewer amenities, may be slightly older than Class A, and are often referred to as “workforce housing.” Class C units are typically older and more affordable, though still market-rate.