Endless eviction bans, credit check bans for new residents and limits on rent increases are just some of the government interventions that have proliferated in recent years, even before Covid-19. and government reactions to it costing people their jobs and income. It would be reasonable to assume that the risk of entering the housing market as an investor, developer or housing provider would have increased with all these interventions. However, one of the characteristics of the housing market is certain counterintuitive realities about risk and its impact on both producers and consumers.
Investopedia characterizes financial risk This way:
“A fundamental idea in finance is the relationship between risk and return. The higher the level of risk an investor is willing to take, the higher the potential return. »
It’s pretty easy to understand for almost anyone. Bet big money on the far horse at the racetrack and you will win more money than a small bet on the favorite horse. Risk and return is something deeply intuitive and understood by human beings. But how is it in the housing market?
On the one hand, when the government sets many rules that complicate the production and operation of housing, supply does not follow demand; when this happens, the resulting scarcity means higher prices. When a property can command higher rents, its value increases. So if you own a property in a highly regulated market, more regulation will make your asset even more valuable. And if you’re an investor, investing in production in one of these markets makes sense because even if it takes years to get a permit, once the project collects rent, it’s likely to remain valuable.
On the other hand, in place with little demand and little regulation, rents remain low, so low that often the potential return does not cover the cost of land, financing, construction and operations. In places like these, homes aren’t built until the demand for homes outstrips the supply enough for prices to rise to create enough revenue to cover costs and generate a return for investors. This is why many rural communities have lower vacancy rates than urban areas and more housing difficulties for less affluent families.
I’ve previously published on cap rates and how buildings with higher rents in low supply, high demand cities tend to retain their value even with more regulation and the impacts of Covid-19 than buildings with lower rents that meet the needs of people with less money. Properties in highly regulated, high-demand cities like Seattle and San Francisco are safer bets for investors. Perversely, the more unbalanced local governments become, the more value housing investments gain as supply is suppressed, demand continues and prices “skyrocket”. And when prices rise, local governments impose more regulation. It ends up being good for large private real estate investors, owners and operators. Small investors get squeezed, sell their more affordable rentals, fueling supply issues.
I spoke with Alex Cohen is the CEO of Freedom SBF, a national commercial real estate finance company on risk, and he agreed that even deals with local governments that impose punitive regulatory regimes on new and existing rental housing are mitigated and absorbed by housing shortages. In his work financing new rental housing and acquiring existing rental housing, Cohen told me that a project in a place like Seattle or Portland might have to “assess the risk” of those unbalanced local governments and the theater of volatile and violent street. But if the demand is strong enough, the fundamentals would support future projects.
I have learned over many years of working on housing and land use policy that while real estate stakeholders are concerned about the risk created by politicians imposing regulations that exacerbate housing shortages , more often than not, these people decide that these risks are mitigated by the scarcity created by these regulations. Prices remain high and therefore allow safer investments in the long term. This is why I pointed out that capitalism does not need defense; in the end, the feasibility of an individual project outweighs the difficulty of building and managing rental housing. Housing will continue to be built despite efforts to make it more difficult, it will simply be more expensive, leading to regulations that drive up wages and subsidies for such housing.
It is the inflationary death spiral we are seeing in the housing sector that will increasingly lead to calls to make housing a “right”. As I explained to Cohen during our conversation, this presents the greatest long-term risk to housing as a commodity. As more radical elements create chaos, risk and scarcity with over-regulation, prices will rise and so will pain among those with less money. As this happens, the demand to end housing as a commodity and turn it into a right will have a profound impact on how housing is financed. This is exactly what radical leftists want: a crash in the housing market, a government takeover and housing rationing.
You would think that the people and companies that finance, build and operate large-scale housing would be alarmed enough to do something about it. But they can’t. They’re far too busy evaluating individual projects, most of which “work” because, as Cohen points out, demand and low supply—inflation—create a scarcity that can continue to absorb shocks. more and more regulations. This inflationary greenhouse is good for investors, left-wing politicians, activists, academics, and large-scale developers and operators, but devastating for people who live paycheck to paycheck. Everyone is following their rational self-interest, but people with less money are hurt. It proves the agitators’ point and convinces the general public that the private housing market is unfair and a failure.
Is there a housing crisis in the United States? Yes, but it’s like a dog chasing its tail; the more rules politicians impose, the worse the crisis gets, and therefore more rules need to be imposed. Projects “work” because they pay off. People with jobs are seeing their wages rise, pushed by wage controls at the bottom of the labor market, and those with fewer dollars are seeing their incomes eaten away by rising housing costs. This means more subsidies at the expense of new housing, costs that are passed on in the form of higher rents. As our former and future president might say, “Sad! »
Can the poor dog be saved? May be. But the private housing sector will need to develop some discipline, invest in understanding what might steer the public away from its slide towards seeing housing as “a right”, and then educate the public on how the housing economy works. so that the public demands something more from politicians than easy and punitive attacks on producers and housing providers. This would mean that people who finance, build and operate large-scale housing would have to drop the lawsuit hopelessly, even if the lawsuit is, for now, profitable.