May 17, 2016

The Higher-End Rental Market Will Be Tested

A report from Crain’s Cleveland Business in Ohio. “In downtown Cleveland and University Circle, a bevy of new apartment buildings and rehabs of former offices to dwellings have come online, and more are on the way. Consider the last six weeks of insanity: Developers have rolled out more than 1,500 suites in a region where 200 units was the norm until the apartment boom began and pushed the figure to 750 suites a year since 2014, according to Marcus & Millichap statistics. Moreover, in projects that are further along, at least that many suites will hit the market by 2018. Just one, Flats at East Bank, has been built from the ground up in the last 10 years.”

“The profusion of downtown housing projects the past decade has also helped hike rents to $1.61 a square foot late last year from $1.10 in late 2010 — an increase of 47% while rents in Cleveland and Cuyahoga County remained flat. Some projects such as the Schofield, The 9 and the Flats at East Bank have surpassed $2 a square foot, the level developers believe they need to make a go of construction in addition to the continued conversion of old office space to swanky apartments. The questions politicos, civic leaders, lenders, real estate developers and others ask are, ‘When will the market soften?’ and ‘Which project will get stuck with more suites than it can sell?’”

The Alabama Media Group. “Birmingham had the highest increase in apartment rents higher than $1,500 per month of any of the eight southern cities in a new study. All eight cities in the Federal Reserve Bank of Atlanta study - Birmingham, Atlanta, Jacksonville, Memphis, Miami, Nashville, Orlando and Tampa - saw declines in the supply of rental units priced between $500 and $750 monthly from 2010 until 2014. All except Tampa saw decreases in units under $500 monthly.”

“Each city also saw an increase of units that cost more than $1,500 monthly - but Birmingham had the biggest increase. It’s likely that that increase has gone up even more since then, with the recent opening of luxury apartment complexes within city limits. It’s also likely to keep increasing - several more luxury projects are in the works. Birmingham is seeing a massive influx of luxury rental units, often celebrated for bringing investment to the city and continuing urban renewal. But incomes aren’t necessarily keeping up with rising rents - 58.5 percent of all renter households in Birmingham spent more than 30 percent of their income on rent in 2014, up from 55.9 percent in 2010, according to the study.”

The Tennessean. “Howe Garden Apartments in East Nashville has been in the news — I mean for something besides last fall’s double homicide. This January, Middle Farms Capital bought the property as part of a $54.5 million deal spanning nine apartment complexes in five cities. Investors like Middle Farms are buying up what few affordable rental properties remain in Nashville, slapping on some new countertops, and doubling the rent. Under Howe Garden’s new owners, renovated units start at $1,099 per month for a one bedroom. About a month ago tenants were paying as little as $524 per month.”

“Nashville is in a crisis. As of December, average rent in this city has risen to $1,246 per month. Income rose 20 percent between 2000 and 2015, but the cost of a home rose 103 percent in that same time. There’s no reasonable relationship between local wages and local rent anymore, and it’s getting worse.”

Vegas Inc in Nevada. “Amid a national apartment boom, Southern Nevada’s multifamily market has bounced back from the recession faster than other segments of the real estate industry. Property pros, however, expect rent growth to slow and vacancies to tick higher, amid questions over the depth of Las Vegas’ renter pool and whether investors are building too many higher-end projects.”

“About 3,000 new apartments hit the local market last year, and 4,500 are expected this year. That’s up from a low of about 370 in 2013, according to Las Vegas broker Spencer Ballif, a senior vice president with CBRE Group. According to Reis, in the first quarter alone, U.S. developers brought to market more than 42,000 units, the highest first-quarter tally since at least 1999. Ballif noted that Las Vegas’ workforce has grown faster than other metro areas’ but said the depth of the higher-end rental market ‘will be tested,’ adding: ‘We’re probably overcooking it a little bit.’”

“Broker Patrick Sauter, managing partner of NAI Vegas, said nearly all developers were ‘building basically the same product,’ going after the same customer base and targeting the valley’s same two submarkets. He figures there ‘might be a little bit of a glut’ of new projects and that rent-growth could slow. Investors, meanwhile, are paying top dollar for these and other rental properties.”

The Colorado Real Estate Journal. “The Denver multifamily property values continuing their current inexorable climb. Simply put, apartment permits are well above the norm – recently averaging 9,500 per year versus the long-term demand of 5,500 units per year. The overbuilding in apartments is being (temporarily) absorbed by millennials who are forced to defer their entry-level home purchase. However, we expect this artificial demand to reverse within the next two to five years as the millennials gain increasing access to mortgage financing.”

“In the meantime, for the next two to three years, apartment developers will enjoy an Indian Summer that they will later come to regret. The fact is, Denver apartment deliveries are continuing well above trend – some analysts are projecting nearly 10,000 new units per year for the next two years. Unfortunately, the great return recently enjoyed by apartment developers and buyers has created a sense of complacency. Capital is abundant and it is likely to drive more serious overbuilding. If developers stop building, the negative downturn is likely to be modest. Unfortunately – given the nature of developers – this is possible, but not likely.”

“It is our estimate that there will probably be a recession in 2019 – give or take one or two years. While this recession likely will be a garden-variety recession, it will have devastating consequences on apartments because it is likely to appear precisely at the time of peak overbuilding of apartments. Vacancies will spike, rents will plummet and values will decline. We are calling this unfortunate confluence a ‘negative trifecta’ for apartments.”

“We are, in fact, guided by defined metrics, allowing us to predict with considerable accuracy the coming cycle downturn. The combination of higher vacancy and lower rents stresses apartment cash flows breaching construction loan covenants. It is the appearance of distressed sales that causes a severe downturn in apartment values. We are not sure that such a downturn will occur in Denver, but we are watching the metrics carefully.”

“We are continuing to build selectively. We still like the transit-oriented and the senior-oriented apartment market niches. Otherwise, in Colorado, we have taken the precaution to sell our three other apartment projects.”