Survive Until '25—Now What?

If you asked people a couple of years ago where they think the market would be in the middle of 2025, very few, if any, would believe we would still be in a down market and with interest rates over 6%. The general consensus was to survive until ‘25, yet here we are and we can’t see the light at the end of the tunnel. We’ve only accepted and adapted to this new market.

Back in 2022, properties in Los Angeles were selling between 12-15 times the gross revenue. Today they are selling at 8-11 times the revenue. That is a 30%+ drop over the past 3 years. What are the factors driving this down market and when will we get through to a more prosperous real estate environment?

Owners are facing battles on 4 fronts.

Interest rates. Rates have remained high. This is the predominant factor behind why property values have remained suppressed. Values are tied to rates because they determine the loan payment. If the mortgage is higher, there is less cash flow available. To offset, buyers will pay lower prices to keep the cash flow return equivalent to when rates were lower.

Rental decline. Coming out of COVID, the rental market was firing. Units were leasing in days, if not preleasing prior to the existing tenant moving. The past year has seen a plateauing effect and a decline in rents in most markets. Some areas have been stable, but overall many submarkets within Los Angeles, and secondary and tertiary markets outside of LA have seen drops in rental rates.

Increased expenses. The costs associated with property ownership have gone up. Insurance premiums are up 50-100%+ and in many cases, there are non-renewals happening with replacement policies being more expensive with minimal coverage. Labor and material costs are up. Trash, water, sewer costs have increased. These higher expenses have led to lower property income.

Regulatory Risk. The city of LA has only gotten tougher on property owners. Rent increases have dropped from 4% to 3% for RSO properties. Evictions are challenging, costly and take months. Building & Safety permitting fees have gone up. Tenant habitability lawsuits are far too common, costing tens of thousands of dollars to settle. There are no signs of the city doing anything more in favor of owners.

Until these aspects trend in a better direction, the real estate market will continue to transact at today’s pricing metrics. That may be another 6 months, 2 years or longer. We don’t know. All we can do is operate accordingly.

Given all the drawbacks to multifamily property ownership in Los Angeles, what is the incentive to buy today or continue owning and operating properties?

Los Angeles remains a highly desirable place to live, meaning consistent rental demand which keeps rents strong and vacancy low. LA is also a stable market that appreciates over time with smaller dips when the market drops while other cities fluctuate much more drastically. It is a safer place people go to invest.

The weather, the beach, the scene is not leaving LA anytime soon. People will continue living here and buying here so if we are able to find opportunities at pricing that offsets the present day risks we will continue to expand our portfolio. Our goal is to find assets that provide low downside risk by ensuring our day 1 basis is below market metrics while still having room to add value, increase the income and raise the property value to maximize returns for our investors.