Everything is just bigger in Texas. So, when you consider Houston’s surge in multifamily deliveries in 2023, you have to keep the Texas perspective in mind.  Although Houston was second in the National Multifamily Housing Council (NMHC) top 20 list of multifamily deliveries for 2023, just behind New York, when NMHC ranked metro deliveries as a percentage of existing apartment stock, Houston dropped off the chart. In other words, Houston’s surge is dwarfed by its capacity to absorb it. And while occupancy has fallen, especially in Class A properties, and rent growth has slowed, Houston should have no difficulty—thanks to its thriving economy—in burning off its excess supply.

A Texas-Sized Surge

The reasons for the wave of oversupply in Sunbelt markets are well-known. The pandemic stimulated additional in-migration, and developers responded by putting on their hard hats and breaking ground. However, delays caused by labor shortages and supply chain disruptions meant that projects started in 2020, 2021, and 2022 all lined up for delivery in a clump. In Houston, the surge also reflected its relatively easy permitting processes, development-friendly zoning, and statewide tax advantages and abatements. It is not as easy to build in Houston as it once was, but it is certainly easier than it is in Austin.

New development has concentrated on the north and west sides of Houston, in an arc along the Grand Parkway from Tomball and Spring to Cinco Ranch, Katy, and Woodside. Developers have also targeted infill in the Downtown and Heights/Washington Avenue submarkets. But development is scheduled to crest over the course of 2024 and drop sharply in 2025, giving demand a chance to catch up—and the drivers of demand in Houston are robust.

A Magnet for In-Migration

For people around the United States looking for a better life, all roads seem to lead to Houston. The U.S. Census Bureau ranked it as the second fastest growing U.S. metro in May 2023, and Moody’s Analytics ranked it second for projected net migration between 2024 and 2028.

The reasons are not hard to find. Houston’s economy, once exclusively reliant on the oil and gas industry, has diversified. Houston is home to 26 Fortune 500 companies, ranking third behind New York and Chicago. Hewlett Packard (HP), Par Pacific Holdings, and ExxonMobil have all moved their headquarters to Houston in the last three years. HP employs 3,000 people in Houston, Amazon located one of its largest tech hubs in Houston, and Tesla and SpaceX both draw on Houston talent.

In addition, the city is home to NASA’s Johnson Space Center, the Port of Houston, which is the nation’s busiest port by tonnage, and the Texas Medical Center (TMC), the largest medical complex in the world. TMC recently opened the first building of its 37-acre Helix Park Bioresearch Campus, which when complete will generate 23,000 jobs. TMC has also announced plans for an even more ambitious 500-acre BioPort devoted to cell and gene therapy. Initiatives like these are behind Moody Analytics’ projection that Houston will have the highest employment growth of any major U.S. metro, adding 142,000 jobs between 2024 and 2028.

Record Home Prices Put Ownership Out of Reach

While in-migration has long been a demand driver for Houston, the high cost of residential housing is also helping Houston soak up excess supply. Higher mortgage rates combined with near-record home prices have pushed home ownership out of reach for many renters who, pre-pandemic, would have had little difficulty moving up. At the same time, average rents in Houston are generally more affordable than in other major U.S. metros. The rent-to-income ratio is just 20%. With mortgage payments and other home ownership costs two and even three times rent in some sections of Houston, renters have little incentive to purchase a home.

Insurance Costs Put Pressure on NOI

Steady, robust in-migration, high home prices, and decreasing construction suggest that Houston’s excess supply will be absorbed over the next year, vacancy rates will reverse course, and more substantial rent growth will resume.

But while revenues should improve, expenses have become increasingly problematic for multifamily owners. Houston’s proximity to the Gulf, the source of its prosperity, has also become a liability, at least in the eyes of insurance companies. Huge payouts due to extreme weather nationally and disasters closer to home like Category 4 Hurricane Harvey in 2017 and Winter Storm Uri in 2021 have pushed insurance premiums up by as 50% for some Houston multifamily owners.

In other words, surging costs are detracting from an otherwise promising outlook and have been a drag on Houston transactions. Prospective buyers noted rising premiums in 2023 with alarm and fear further hikes in 2024.  With higher expenses exacerbating the effects of higher interest rates, Houston’s multifamily investment sales volume fell to $510 million in fourth quarter 2023, the second lowest in a decade according to MSCI Real Capital Analytics. Houston’s median sales price per unit decreased 24.2% year-over-year at the end of 2023, compared to just an 8.6% drop in the rest of Texas.  At year end, the median cap rate rose to 6.1%. In the short-term, the resurgence of Houston’s multifamily market depends on the Federal Reserve’s ability to push inflation below 3% and lower interest rates, providing some leeway to accommodate rising insurance premiums. But in the long-term, Houston’s thriving economy and the investment that organizations of all sorts are making in Houston’s future bode well for multifamily investment.