Applying a Recession Scenario To Your Multifamily Analysis

By Philip Grossmann Mindful Assets LLC

The potential for recession is something that is on the top of many investors’ minds. We are often wondering how we can make the best decisions with our future investments and how to protect ourselves against what might happen in the face of a pessimistic economic outlook.

We recently had an opportunity to invest in a limited partnership in a 420-unit apartment complex in Ft Lauderdale. Our company wanted to run a stress test scenario based on historical data from the Great Recession to project potential returns in that economic condition.

According to the National Bureau of Economic Research The Great Recession began in December 2007 and ended in June 2009 and this is the time horizon we focused on to run the scenario. In this article, we attempt to understand what appropriate historical data is necessary to calculate potential returns in the face of a pessimistic economic scenario.

Miami-Fort Lauderdale-Pompano Beach, FL Metropolitan Statistical Area (CBSA 33100):

The CBSA 33100 Miami-Fort Luaderdale-Pompano Beach represents the bottom right area of Florida consisting of three county divisions: Palm Beach, Broward, and Miami-Dade.

Source: December 2008 Metropolitan and Micropolitan Statistical Areas (CBSAs) of the United States and Puerto Rico

Employment experienced a total decline of 9.56% from 2007 to 2009 in this MSA negatively impacting rental vacancies and median gross rent.

Source: State and Metro Area Employment, Hours, & Earnings

Before the start of the recession in 2005 rental vacancies in the Miami-Fort Lauderdale-Pompano Beach FL MSA was 6.2% rising to a peak of 11.8% in 2009. For a stressed scenario, you should calculate the break-even vacancy rate, in addition you should project what your returns would be using the historical peak vacancy rate for your target MSA. In this MSA it is 11.8%.

Source: American Community Survey 1-year estimates

During that same period, Median Gross Rent grew 22.01% from 2005 to 2008 before experiencing a decline of 1.95% for periods 2009 to 2010 before starting to increase again in 2011. The average 5-year annualized rent increase from 2008 to 2012 was 1.2%. A more stressful average annualized 5-year rent increase was from 2009 to 2013 was 0.67%.
Using this 0.67% figure to determine the break-even vacancy rate would give you the most stressful scenario. You would also want to use this lower figure with the peak vacancy rate of 11.8% above to project what your returns would be.

Source: American Community Survey 1-year estimates
Source: American Community Survey 1-year estimates

Source: American Community Survey 1-year estimates


Source: American Community Survey 1-year estimates
Source: American Community Survey 1-year estimates
Source: State and Metro Area Employment, Hours, & Earnings

Correlation of Variables Ignoring Time: All MSAs within United States and Puerto Rico
This deserves its own article but I wanted to show the correlation between the sets of data in aggregate across the US and the more focused Miami-Fort Lauderdale-Pompano Beach, FL MSA.

Source: American Community Survey 1-year estimates

Correlation of Variables Ignoring Time: Miami-Fort Lauderdale-Pompano Beach, FL Metropolitan Statistical Area (CBSA 33100)

Source: American Community Survey 1-year estimates


Disclaimer:
Any views or opinions represented in this article are personal and belong solely to the owner and do not represent those people, institutions or organizations that the owner may or may not be associated with in professional or personal capacity unless explicitly stated. Although every effort has been made to provide complete and accurate information, the author makes no warranties, express or implied, or representations as to the accuracy of content in this article.

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