The multifamily sector has long been the darling of commercial real estate. It’s got the strongest fundamentals and greatest returns. And it’s the sector with the most access to financing for acquisition and development.
Such success has led to increasing concerns of overheating and overbuilding. But so far those fears have proven to be unfounded. Still, not every multifamily market is created equal.
Here, we take a look at the 10 markets that are forecast to generate the highest rental rate growth while maintaining high levels of occupancy.
It’s important to note that half of the list is located in California, and seven of the 10 markets are located on the West Coast. Only one market from the East Coast made the list: Miami.
All 10 of the markets will see significant new supply in 2014. Developers are doing their best to take advantage of the growth opportunities, yet none of these markets is in danger of being overbuilt because they have had a lack of supply over the past few years.
Other common characteristics these markets share are their ability to attract high-paying jobs and young, well-educated residents and their lack of affordable single-family housing. In particular, this is true of the Bay Area, San Diego and Orange County, Calif.
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Last year (2013), San Diego experienced an uptick in apartment construction. Local experts say the market easily absorbed the new units, and recent data proves it. At the end of 2013, the market’s occupancy rate was 96.2 percent, and rents increased 3.6 percent year-over-year, according to MPF Research.
“Unlike the rest of Southern California, this one didn’t really lose ground meaningfully during the downturn so today’s revenues are close to 6 percent above pre-recession levels,” Willett says. “Other parts of the region are just now getting back to the revenues posted in mid-2008.”
Willett expects construction activity to continue to be strong in 2014. MPF Research estimates that 5,200 units are scheduled to deliver in the near term. But that number only adds 1.9 percent to the current inventory and is manageable, he contends.
Titcomb agrees, pointing out that San Diego has the fifth-highest concentration of people between the ages of 25 and 34 in the nation, roughly 500,000 people who are likely to be renters. Moreover, San Diego continues to be one of the country’s most expensive housing markets, and more than half of its residents are renters.
But Willett expects rent growth to be stronger in lower- and middle-market properties than in top-tier communities. “Affordability is a bigger challenge in San Diego than in most metros… there simply aren’t a lot of renter households in San Diego who can afford luxury product, and rent growth in those units almost always trails the overall norm to some degree,” he says. “The advantage lies with the suburbs over the urban core, since the lower-priced units are concentrated in the [suburbs].”
Overall, the 2014 performance outlook remains comparatively attractive, with expected occupancy loss limited to 20 basis points and rents likely to climb 2.8 percent, according to MPF Research.
Orange County, California, took a while to come out of the most recent recession, but once it did, apartment developers put their shovels in the ground in “the OC” instead of other areas because rents justified construction costs.
“The metro already has had to digest one sizable burst of new supply,” Willett notes. “Those units moving through initial lease-up briefly slowed pricing power in early 2013, but as they were digested rent growth accelerated once again, ending 2013 at 3.6 percent.” He says Orange County’s occupancy rate at the end of 2013 was 95.9 percent.
Apartment demand is robust in Orange County due to a mix of economic growth, household formation and the increasing cost of home ownership. In fact, Orange County is within the top 50 counties nationwide in terms of the percentage of households that rent versus own residences.
Titcomb says employment in Orange County has increased significantly over the past 12 months. Payrolls have grown 2.3 percent, the second highest in California, and all major employment sectors have seen expansion. “Although there is still significant ground to be covered for full recovery, half of the jobs that were lost during the recession have been restored,” he points out.
Household formation has averaged 0.62 percent since 2010, according to Jones Lang LaSalle. However, the pace is much higher in core and coastal areas. Irvine leads at 6.2 percent.
An additional 6,300 units are on the way in Orange County, growing inventory by 2.7 percent in the near term, according to MPF Research. “Performance results in 2014 probably won’t quite hit the levels seen in 2014, but the overall outlook remains very positive,” Willett says.
Seattle arguably has the strongest apartment demand on the West Coast. In 2013, the market absorbed nearly 7,000 units, trailing only Houston, Dallas and Atlanta, according to MPF Research. At the end of the year, occupancy was 95.7 percent and rent growth over the past year reached 5.5 percent.
“I think even local real estate professionals were cautiously optimistic, but most didn’t see all this new product absorbing so successfully,” says Steve Yoon, director at Wood Partners. “It speaks to the strength of the economy and the desirability of living in the Puget Sound.”
The local economy of Seattle and the surrounding Puget Sound area is rocking and rolling. On average, it has added 30,000 to 40,000 jobs annually for the past several years and employment growth is expected to average 2.1 percent annually, according to Titcomb. The market has seen significant growth in technology jobs, drawing Millennials to the area.
“With lots of job additions occurring in the heart of the city and apartment construction very significant in and around downtown, Seattle appears likely to be the next U.S. metro that will offer a 24/7 urban core similar to the environments seen in Manhattan and the downtowns of San Francisco and Chicago,” Willett says.
Seattle is one market that apartment developers have targeted for future growth. “We’ve seen an infusion of developers and investors from outside the region and abroad,” Yoon says. “Seattle has a lot of great fundamentals that make investments attractive.”
Developers opened 8,000 new units in 2013—the highest level of production since 1991, says Gregory A. Laycock, executive vice president and managing director of Transwestern in Seattle. “The level of new supply of apartment units in the market has been a surprise,” he says. “At an average of 7,600 units per year, you would have to go back to the late 1980s to see more development in our market.”
Dupre + Scott Apartment Advisors expects 38,000 new units to be introduced to the market in the next five years, but that job growth will create 40,000 new renters over the next five years. Transwestern’s research shows that the region added approximately 52,000 jobs in 2013 and is poised to add another 52,000 jobs in 2014, with a total of 194,200 jobs over the next five years.
Apartment developers have set their sights on Denver, and this market will have to deal with more supply than other markets on our list. However, industry experts say the market should be able to absorb the supply, albeit with a bit of occupancy dip and weaker rental rate growth. Even so, MFP Research is forecasting occupancy over 95 percent and pricing power around the 4 percent mark.
At the end of 2013, Denver’s apartments were 96.2 percent full. The market tied with San Jose for the highest rent growth in 2013 at 7 percent.
Job growth and in-migration are driving the demand, according to Titcomb. He points out that employment has grown 3.1 percent over the last 12 months, ranking it among the highest in the nation. Meanwhile, Denver was the number one relocation destination in the United States for people 25 to 34 years old.
Landlords have been able to push rents because apartment demand in Denver is outpacing supply, according to Jeff Hawks, principal of ARA Colorado. Over the last 12 months, 5,000 units were absorbed, and 17,000 units are expected to deliver over the next three years.
Tom Wanberg, senior vice president of Transwestern, notes that new apartment building construction in the Central Denver market is on pace to exceed any previous year of record. Specifically, the urban core has seen a lot of new supply, resulting in flattening rent growth. The best rent growth is currently in the suburbs and in
class-B and -C assets.
“Denver is at the beginning of its apartment cycle,” Hawks says. “It is hard to imagine anything slowing it down. The same-store rents have just reached 2003 levels and Denver renters have the ability to withstand significant rent increases.”
Even though Houston’s for-sale housing market is “blowing and going” and multifamily developers are delivering nearly 14,000 units annually, the apartment occupancy rate is stronger than it has been historically and landlords have pricing power.
“Many of us were conditioned by previous cycles to believe that there was a certain level at which Houston rents would top out, but there are currently properties all over town that are blowing by those old hurdles,” says Todd Gaines, director of the South Texas region for Wood Partners. “I think that helps illustrate the type of desirable, high-wage job growth we’re seeing here, and also speaks to the fundamental shift in people’s attitudes about renting versus owning a home, as well as the percentage of income that these renters-by-choice are willing to spend on housing that provides convenience and quality of life.”
Denton says job growth in Houston has been “tremendous.” Nearly 200,000 jobs have been created over the past two years while less than 13,000 multifamily units have been delivered.
“It is not unusual for Houston to experience periods of strong job growth, but it is very rare for supply to dry up the way it did during the downturn,” Denton notes. “Construction could not ramp up fast enough as job growth improved, which created the surge in rent growth. All asset classes are performing very well.”
Willett points out that Houston’s year-end 2013 occupancy rate of 93.9 percent was lower than the levels seen in other top performers. “But compared to most other locales, this metro has lots more essentially obsolete units that never get completely full, and those apartments account for the bulk of the vacancies,” he explains. “This occupancy rate is actually an incredibly strong performance relative to Houston’s historical norm, thus pricing power is very strong with 2013 rent growth at 4.4 percent.”
Because demand will continue to outpace supply in Houston, MPF Research expects the metro to remain the top-performing apartment market in Texas, with occupancy remaining in line with 2013 rents climbing another 3.9 percent.
Transwestern Senior Vice President Ed Cummins says another 20,000 apartment units are under construction and another 20,000 units proposed. “Developers are increasingly confident in their ability to lease up buildings, new construction or repositions,” he says.
The residential condo bust slaughtered Miami, but this world-class city recovered enough that apartment landlords began to have pricing power in late 2013. The market is expected to strengthen throughout 2014.
Miami was one of the first markets to begin recovering during this cycle. David Thompson, director of Wood Partners in Florida, has been surprised by the resilience of the Miami market.
“Yields remain compressed, and the demand for condominiums seems insatiable,” he notes. “The condo market has continued to strengthen. Miami’s reputation as an international destination continues to grow.”
During Miami’s last housing boom (2003 to 2007), more than 31 percent of the total class-A inventory (12,700 units) was converted to condominiums and removed from the available multifamily inventory, according to Brady Titcomb, director of capital markets research for Jones Lang LaSalle. “The lack of quality inventory has caused class-A product to perform well over the last six years,” he says. “Even during the peak of the financial crisis  Miami’s class-A multifamily vacancy reached a high of only 6.7 percent.”
The apartment market has been full for several quarters, with occupancy at 96.7 percent at the end of 2013, according to MPF Research. Rental rates jumped 5.2 percent in 2013.
“Because of competition from shadow market rentals, that tight occupancy actually didn’t translate to a lot of pricing power until recently, but many of those shadow market units now have been burned off, allowing rent growth to accelerate,” Willett says, adding that MPF Research projects occupancy to hold steady in 2014 and rent growth to come in around 4 percent.
Memories of broken condo deals have faded, and condo construction now is kicking up in Miami in a very big way. “What has surprised me the most is the abrupt turnaround in the residential condominium market,” says Marc deBaptiste, principal of ARA/Florida. “Last cycle we saw about 49,000 units delivered. Of that, less than 5 percent of the inventory remains with last year’s pricing averaging $375 per sq. ft. Today it is nearing $600 per sq. ft.”
DeBaptiste notes that the Downtown Miami and Brickell submarket is seeing explosive growth in office, high-rise residential and commercial development. However, developers are delivering only a handful of rental apartments. In fact, just 4,500 units are under construction, roughly 2.1 percent of total inventory.
Along with its northern neighbor, San Jose has consistently ranked as one of the top multifamily markets in the nation for the past several years. The city anchors Silicon Valley, which has experienced a wave of positive economic news.
The Bay Area’s professional football team, the San Francisco 49ers, will move to a new stadium in nearby Santa Clara in 2014, bringing thousands of permanent jobs to the area. In addition, a number of high-tech employers have announced expansions. Along with Yahoo! and Google, LinkedIn and Apple have both leased large chunks of space to accommodate growth.
MPF Research reports that San Jose had an occupancy rate of 96.6 percent at the end of 2013, and tied with Denver for 2013’s best rent growth at 7 percent.
Some landlords have experienced even greater rent growth. Essex Property Trust, for example, reported during a recent investor presentation that its rents in San Jose increased 45 percent from the fourth quarter 2009 to the third quarter 2013. The strong performance of the market compelled the REIT to increase its portfolio allocation, including development projects. In early 2013, it opened the first phase of Epic, a 769-unit rental community on land that once housed Cadence Design Systems’ headquarters.
Willett notes that ongoing construction in San Jose matches the San Francisco count at 5,800 units. “But this is a smaller metro, so the resulting inventory growth pace is meaningfully more aggressive at 3.8 percent,” he adds.
The construction activity is very concentrated in one spot: the North San Jose/Milpitas submarket. “There could be a competitive leasing environment in the top-end product segment, but performance should be very strong in the rest of the product mix, yielding overall results that are impressive by national standards,” Willett says.
San Francisco has been a top multifamily market for the past several years, and the city continues to attract high-paying jobs and well-educated residents.
The City by the Bay led the nation in tech jobs from 2007 to 2012, with tech-related employment rising 51.8 percent over that period, according to Bloomberg Technology Summit. San Francisco County boasts the lowest unemployment rate in the state. As of November 2013, the unemployment rate was 4.6 percent.
Demand for apartments is extremely strong since single-family housing is unaffordable for most people. “Occupancy is very high … [which gives] pricing power to landlords,” Denton notes. “The Bay Area has been the hottest place in the country for rent growth over the past three years.”
MPF Research reports that San Francisco’s stock is 96.5 percent full, and rent growth in the past year was recorded at 6 percent. Ongoing construction is at 5,800 units, or 2.6 percent inventory growth.
“While that future new supply isn’t all that big compared to what’s on the way in some other metros, it’s a huge block of completions by San Francisco’s historical standards,” Willett says.
Apartment completions will be very concentrated in the South of Market area. “Those near-term deliveries point to a competitive leasing environment for top-tier stock in the urban core,” Willett notes. “However, the top-tier segment should continue to perform very well in the suburbs.” He expects the area’s middle-market and bottom-tier product to perform well.
“Even though job growth has slowed from last year’s pace and new supply is increasing, we expect the Bay Area to rank amongst the best for rent growth again next year,” Denton says.
Portland is one of the tightest apartment markets in the nation, and landlords were able to push rents significantly in 2013. At the end of the year, occupancy stood at 96.7 percent and rent growth was 6.4 percent.
The city’s stringent urban planning requirements makes it an attractive place to live but also a challenging place to develop new apartment stock. The city’s economic and population growth has created more demand than supply can accommodate.
“Extremely low vacancy rates in Portland are attributable to little or no construction over the past four years,” notes Gail Neuburg, principal of Apartment Realty Advisors’ Portland office. “A new wave of development began in 2012 and will support gradual increases in vacancy.”
Construction in Portland accelerated quite a bit during the last half of 2013 to reach a total of about 4,200 units, or 2.4 percent inventory growth, by year-end, according to Willett. But building activity is spread out across multiple neighborhoods and scheduled delivery timing is staggered more than is the case in most locales.
One trend that has surprised local experts is the popularity of micro-apartments. These small living units have been adopted not only by young professionals but also empty nesters, Neuberg says.
While job growth in Portland isn’t quite as strong as it is in Seattle, there are still approximately nine jobs being created for each new apartment unit delivered to the market, according to Jay Denton, vice president of research for Axiometrics. “That is a strong demand/supply ratio,” he points out.
Known as the place where young people go to retire, Portland’s population growth has been steady, averaging 1.3 percent over the past three years, according to Axiometrics. This trend is projected to continue into 2015.
“Portland is similar to Seattle in terms of the types of jobs and residents it attracts,” Sebree says.
However, Portland could hit the ceiling on affordability more quickly than some other metropolitan areas will, as incomes tend to be a “little low” for a West Coast market, Willett says. “While expected rent growth remains very strong in 2014 at about 5.1 percent, that’s not a pace that can be sustained over the long term, regardless of how high occupancy is,” he adds.
Oakland–East Bay is MPF Research’s top choice for 2014 performance. “The existing stock there is jam-packed full across every neighborhood and every product niche,” notes Greg Willett, vice president of research and analysis for MPF Research.
Much of the demand is spillover from San Francisco, according to John Sebree, vice president and national director of Marcus & Millichap’s national multihousing group. “As San Francisco and the peninsula becomes even more expensive, I think we’ll see more people realize how far their dollar will go in Oakland,” he predicts.
Willett agrees: “While rents in San Francisco traditionally have run about a third higher than pricing in Oakland, that premium now is close to 60 percent after San Francisco’s big run-up in rents this cycle.” He adds that the metropolitan area looks very well positioned to rank as the country’s rent growth leader over the coming year, with the increase anticipated at 5.7 percent.
Over the next three years, the market is expected to experience population growth of 1 percent annually, or roughly 27,000 people. Roughly 14 percent of Oakland’s 2.6 million population falls into the 25-to-34-year-old renter cohort group.
Oakland’s own economy is strong, and the economic outlook is healthy. The unemployment rate has dropped below 7 percent, a decrease of more than 1 percent from a year earlier. Of equal importance, Oakland’s average household income increased 4 percent year-over-year to $159,556, which is good news for apartment owners.
At the end of 2013, occupancy in Oakland was 97.1 percent, according to MPF Research. The market posted rent growth of 6.6 percent.
Willett says Oakland’s economic growth will support apartment demand in the near term at the same time that completions will be very limited. Ongoing construction is at just 1,500 units, or 0.8 percent inventory growth.
“Developers would love to build in Oakland, just as they would anywhere in the Bay Area, but the sites just aren’t available right now,” he says. San Francisco and San Jose are more active, he says, “because a couple of pockets of land that had obsolete industrial space on them have been approved for redevelopment.”
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