Income and Rents: It Takes Money to Make Money
As apartment rents continue to trend higher, real estate economists are worried income growth isn’t keeping up. After all, an increase in rent means residents are forced to allocate a higher percentage of their income to housing if their paychecks don’t also increase proportionately. Investors, especially in Class B and C assets, are worried that the ability of renters to pay higher rents is nearing a ceiling. As such, investors across all product segments have become more focused on metros with higher wage growth expectations – a backdrop necessary for higher rents moving forward.
At the metro level, the best indicator for wage growth is the average hourly earnings, as reported by the Bureau of Labor Statistics. However, the data is limited – the time series for average hourly earnings at the metro level only goes back to 2007. Since that dataset lacks coverage over multiple real estate cycles, let’s focus on personal income to assess income growth.
Personal income encompasses wages and salaries, investment income, government transfer payments and business income, among others. (For a full definition, visit http://www.bea.gov/regional/definitions/.) However, personal income does not take into account population growth. So, for the purposes of our analysis, we’ll focus on per capita personal income, which takes the total personal income divided by the population of the area. Per the first chart, the pace of growth in personal income per capita has slowed at the national level over the last 30-, 15-, and five-year time periods. When examining performance among 20 metros during these same time periods, a substantial decline in the lower performers led to a divergence of performance from top to bottom.
Is the Glass Half Full or Half Empty?
A look at per capita personal income on an annual basis reveals an unwanted trend. Across most metros, the pickup in personal income growth following the Great Financial Crisis has given way to three consecutive years of a declining pace of growth. Moving forward, it is reasonable to expect improving results derived from healthy job creation, rising asset values and expectations of higher interest rates, all of which have set the scene for better personal income growth in the near future. This, of course, is an important trajectory for apartment owners and operators.
A Stock Picker’s Market
Despite positive sentiment, personal income growth on the metro level is likely to remain bifurcated between winners and losers. Looking at the most recent five years of data, we can map high rent growth areas to high personal income areas. The standouts are closely linked to larger employment concentration within technology and biotechnology. Examples include San Jose, San Francisco, Austin, Boston and, to a certain extent, San Diego. Where things get tricky is in the areas like Phoenix and Orlando, where rents continue to climb, but personal income growth is lackluster.
As we examine rental growth as it tracks to personal income growth, we can apply that tried-and-true business adage: It takes money to make money. In this case, it takes other people making money for investors to see income … and continue to fuel the red-hot multifamily market.
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