A puzzlingly common misconception in the investing world holds that investments that take into account environmental, social and governance considerations entail a certain trade-off: doing good for people/communities versus turning a profit.
While numerous meta-studies and academic papers have debunked this perceived trade-off, the stubborn misconception has persisted. This is true particularly in the real estate investment world, where many landlords or property owners seek to deregulate their affordable properties as quickly as possible, so as to cash in on higher market rate rents.
Although it may not seem as sexy as investing in gleaming new rental high-rises, affordable housing (Low Income Housing Tax Credit, Article XI, 421-A, and other programs) can actually be a more solid investment proposition than market rate properties. Moreover, affordable housing offers the opportunity to invest in an asset class that has the potential to produce market rate returns or better, that also enables mission-based or impact investing in the service of ESG considerations.
In much of the United States there is a demand for affordable housing, with increased renters throughout the country experiencing a cost burden (spending 30% or more of their income on rent). This demand and constraints on supply for affordable housing translates into high occupancy rates for affordable rentals; higher occupancy means lower volatility for investors.
Adding in ESG Techniques
By incorporating a few simple ESG practices into property management, including social programs and financial literacy training, affordable rental investors can help tenants stay in their homes, leading to less credit loss (from tenants not paying their rents) and lower turnover rates, further lowering costs.
This can result in a “lower beta” income stream. “Lower beta” pricing of assets are just as attractive as more volatile market rate apartments, which can be much more difficult for property managers to fill, especially in the case of new luxury apartments with sky-high rents.
A recent deal shows how investing in affordable housing is gaining increasing traction among institutional money managers. In July, a joint partnership between L+M and Invesco paid $1.2 billion for a collection of 2,800 rental apartments in New York City, with the plan to convert two-thirds of the units from market rate to affordable housing; typically investment managers buy rental properties in New York with the opposite goal in mind, to convert rent stabilized units to market rate units.
The group may be seeing the investment as more defensive, since, as I believe, they can count on the higher occupancy of affordable units to help mitigate the impact of market cycles. The deal also takes advantage of significant tax breaks offered by the city, another benefit that is often typical of affordable real estate investing.
The deal amounts to a win-win-win that typifies affordable housing investing: Lower rents for tenants making below the median household income, higher occupancy rates and more stable income for the investors and boosted affordable housing in a city where demand for affordable housing far outstrips supply.
It may still be early days as the investing world wakes up to the opportunity represented by affordable housing, but it’s clear that some institutional money managers already are taking notice. Perhaps it’s only a matter of time before the rest of the investing world realizes that the perceived trade-off in using ESG considerations is nothing more than a myth.
Jonathan Needell is President and Chief Investment Officer of KIMC, an employee-owned, California-based real estate investment company that invests in affordable and workforce housing units that make a positive environmental and social impact. The views and opinions expressed here are his own.