Following the US housing markets over the past several years has been akin to watching a giant pendulum swing one way and then another. We are witnessing a dynamic whereby when one sector of housing cools off, another heats up. No less than four years ago, news headlines were littered with descriptions of how the seemingly impermeable for-sale market crashed. This one from a December 2007 article in Bloomberg was pretty endemic of what was going on, “US Housing Crash Deepens in 2008 After Record Drop”.
These days, however, it’s different. Now, we are seeing the opposite effect for rental markets. Simply, they’re skyrocketing, especially in dense urban areas. Check out this headline from an April 2012 WSJ article, “Rents Record in Manhattan” or this one from a few days ago in The Real Deal, “Reports: Manhattan rental market gets even tighter”. This headline appeared in CurbedNY the other day, “Manhattan Rents Hit Record Highs as Busy Season Begins”.
To us, though, it’s not the pendulum-like dynamic that’s the most interesting. What is most interesting is how far the pendulum is swinging. So, four years ago we saw record lows in certain for-sale markets and now we are seeing record highs in certain rental markets? This dynamic got us here at Kwelia thinking: Are rental markets truly as overheated or as pricey as the news outlets would have us believe?
Well, qualitatively, this makes some degree of sense. For one, there exists a crazy disparity between available rental supply and the demand for rental product in big markets like Manhattan. Perhaps as a result of tighter construction lending, there has been limited new apartment supply in certain urban markets. According to CitiHabitat President Gary Malin, “[t]here are only about 2200 [rental] units are coming on the market this year…” in Manhattan. This has been the lowest new supply figure in the past seven years for the borough. On the other side of the spectrum, there exists unique demand factors that fuel a thirsty rental market. Among these are urbanization trends and a tough mortgage environment to make it more difficult to purchase a home.
But on the quantitative side, it becomes clear that looks can be deceiving. We have noticed that consistent in all of these articles discussing record rent levels has been the use of average rents as the critical determinant of these levels. Grade school math tells us that the average or arithmetic mean is simply the sum of a group of numbers divided by the total number of quantities. While averages are commonly used in real estate circles to indicate pricing pressure, exclusive reliance on them can be misleading. The reason for this is that extreme numbers (either high or low) can artificially inflate (or deflate) the average number in that set. So if we can be more specific from our earlier question: Are Manhattan rents truly increasing beyond record levels or could there be an influx of uber-luxury units on the markets to skew the averages upward?
The quickest way to test for this is to derive median rents and see how they stack up next to the averages. To take it back to grade school again, the median is the middle value in a set of numbers. By examining the middle number in a set, we are less susceptible to bias by outlier numbers.
Let’s test it. Using our own data, we compiled a graph that compares moving averages and medians head-on for rents in the entire borough of Manhattan.
Despite some volatility week-to-week, our data corroborates that the average rent (in red) for Manhattan is mostly substantially north of $3000/month. As the Wall Street Journal discusses, “The average Manhattan apartment commanded $3,418 in monthly rent in March, according to a first-quarter report to be released on Thursday by brokerage Citi Habitats, That is the highest rate since the firm began tracking such data in early 2002—topping the previous record of $3,394.”
But now look at where our data indicates median rents (in blue) are. Based on our numbers, median rents are around somewhere just south of $2600/month, which is a range that we highly doubt is near record levels. Things get even more interesting by taking a step back and looking at the graph as a whole. The gap between the the mean price and the median price is stunning, isn’t it? The obvious conclusion is that average rents are getting notched up by outlier luxury units that command excessive valuations and can tend to be misleading when used as leading indicators.
The lingering question resulting from all of this is where we are to go from here? Are we to discard all of the aforementioned news articles and the analysis that came with them? Well, clearly that’s not the outcome we were going for with the counter-analysis here. Our goal is simply to demonstrate that blind adherence to averages can be deceiving and that although rents in towns like Manhattan are high, maybe they aren’t quite as high as we may think. Generally, we can safely confirm our suspicions that averages can indeed mask what is really happening and that medians are a less-biased measure of price levels.
We here at Kwelia are monitoring real-time changes in the rental markets that we cover. Through our intelligence, we help landlords and property managers make smarter decisions. Stay tuned to future posts as we will continue to share our insights on rental markets.