By Nathan Moeder, Principal
London Group Realty Advisors
There are 77 million Millennials who are approaching 35 years of age. As such, they represent the biggest population “cohort” of any segment in America.
They are larger than the Baby Boomers. This is important because the Baby Boomers have powered much of America’s real estate development, both public and private — from the construction of hospitals and schools, to housing—over the past 65 years. They still do, to some extent (think empty nester housing, senior facilities to come, etc.)
Real estate development and planning practitioners rightly conclude that it is the Millennial market that will dictate most construction and development throughout America, much like their Baby Boomer parents have.
It is in their understanding of this market that we believe they have got it wrong. That starts with the movement to urbanize and densify the cities. The thinking is that the current drive to rental units, smaller units and urban living represents the framework of the demand that we have to supply to.
This thinking is likely to be way off the mark. Just because Millennials are urban, unmarried, without child, transient and uncertain doesn’t mean that they will always be.
The latest offerings of rental projects in most of the markets that we cover are screaming “urban” and “small”. Developers and planners have been obsessed with smaller unit sizes with more studios and one-bedrooms – which is what they believe Millennials want. So far it has played out that way.
In fact, it is not logical to assume that the tendency of Millennials will differ from prior generations: will they really prefer studios and one-bedroom apartments as they contemplate and then form families?
The wrongheaded thinking is rooted in the simple fact that Millennials have delayed having children and forming families. But that was due to the economy, instability and weak job prospects. Things are vastly different now and this generation is adjusting, coupling and thinking about starting a family. As a result, their housing needs are changing, too.
So this begs the question: are today’s projects for yesterday’s demographic?
We are now challenging our clients to examine the sustainability of emphasizing studios and one-bedroom units. It is important to question whether the Millennial segment that these residential products have been targeting are on the cusp of being over built. We think we will see this dynamic play out in very dense high-rises where developers try to escalate rents floor-by-floor as you go higher in the building. Renting for $3,000/mo may be too expensive for a single occupant. Maybe it makes more sense to include more two-bedroom units on the upper floors to allow for roommates (dual incomes) to afford the higher rents. In the long run, this additional space (and more bedrooms) can accommodate family formation. In other words, you can always kick out the roommate.
We are also looking at formerly, and exclusively suburban, locations, where infill opportunities will allow us to develop denser versions of single family environments such as town homes and row homes.
These products can be built as rental or condos. Or build as rentals first, with an eye toward conversion. Clearly, a great percent of current renters will be permanent renters. The percent of home ownership has decreased to historic norms, and it is likely to stay that way.
Millennials are not buying as early, and certainly not as big, as their Baby Boomer parents did in the 1980’s. But that delay seems to have passed, and they will become buyers again. You can count on it. As the downside to home ownership passes by in the rear view mirror of a recession that we are six years passed from, home ownership will matter to many Millennials.
For developers and current holders of rental assets, this changing demographic impacts exit strategies. With cap rates as low as 4.0%, there is the potential for lower returns and even losses if interest rates and cap rates increase.
Long term strategies are now calling for building a unit mix that anticipates family formation or even building to condo specs. This gives the flexibility to convert to for-sale condos in the next 5 – 10 years and offer units (two and three bedrooms) that people want to buy.
It’s time to turn the page and look at the next chapter of this younger generation, particularly as metropolitan areas compete for its talent. We can’t get stuck planning for yesterday’s millennial.