Rent vs. Own Flips Again

7/10/2023

It is the age-old question for city living; do you buy a home or rent an apartment? This is a metric that changes direction every few years, and with the increase in market interest rates over the last twelve months, the metric seems to have switched significantly, for now at least, in favor of renting again.

Multiple factors contribute to this decision, with the three most important being home prices, mortgage rates, and multi-family rental rates. According to the Case-Shiller National Home Price Index, single-family home prices saw average annual increases of 5.2% from 2001 through 2023. However, their post-COVID increases have materially surpassed that figure. The trailing 12-month return for April 2022 saw the largest increase ever recorded, at 21.3%. While home prices are slightly down this year, by -1.7% nationwide, pricing for single-family homes is still significantly elevated. There were two main contributors to elevated home prices coming into 2023, an overall increase in demand for more space (a legacy of COVID lockdowns and change to work-from-home regimes) and the low cost of mortgages due to low market interest rates.

From the end of the COVID recession until December 2022, the average national mortgage rate was around 3%. This low rate reduced the monthly payments needed for home buyers, allowing them to borrow more money for the same monthly payment. Now that this is north of 6.8%, average monthly mortgage payments are on the rise, with the average monthly payment increasing to $2,317 in April of this year. While this payment increase has not yet caused a significant drop in overall home prices, the last time mortgage rates were this high was in 2002. The market will take some time to adjust to this new monthly payment challenge. 

On the other side of the equation is multi-family rent rates. Monthly rates are also near all-time highs but still significantly more affordable than their purchasing equivalent. Again, for April, the average multi-family rent stood at $1,709 per month, or $608 cheaper than the equivalent for purchasing a home. Just 18 months ago, this spread was $150 in the other direction. While renting an apartment does not build equity like owning a home does, it also comes with fewer additional expenses, such as maintenance or yard care, increasing the implied value proposition even further. This is not to say that multi-family rents are downright cheap. Housing affordability is, in general, a significant issue these days, but on a relative basis, rentals are more attractive than the purchase option.

While there will always be a difference between the buy vs. rent monthly payment averages, the spread is not normally as wide as it is today. This suggests that one or both of the metrics will need to move. Most likely, they will meet somewhere in the middle, and both rents will go up and housing prices will go down, but the magnitude of each is hard to predict. It will be worthwhile to monitor each metric closely for the foreseeable future.

Carey S. Blakley, CFA