Credit: Jack Hornady

It all comes down to simple economics. Simple economics says investors in apartments are looking for a sweet ride over the next several years. The lack of meaningful new apartment construction since 2008 has created a supply/demand imbalance that, in tandem with the arrival of 80 million Gen Y renters (who prefer the flexibility of the renter lifestyle), is expected to generate a monster multifamily market. Truth be told, the monster may have already arrived: The apartment sector has seen 16 consecutive months of occupancy and rent improvements, despite a lack of meaningful job growth. But simple economics also points to an emerging cost-of-housing dichotomy that has traditionally been the undoing of the apartment operator: Rents are going up, and condo prices are coming down. If the cyclical nature of multifamily construction proves out, the endgame of that dichotomy means renters will slowly leave apartments to purchase condo units, and builders and investors will chase them down, attempting to convert rental buildings into condos along the way. “What ­really triggers the conversion decision is when it is cheaper to buy a property than it is to rent it,” says condo converter Anthony Everett, an 11-year veteran of Post Properties who is now owner of Tampa, Fla.–based Metis Property Group, which has completed six condo conversions over the past 24 months. “In any real conversion market, people are buying condos for entry-level housing because it is cheaper than a monthly rent. The last cycle even started that way.”

While multifamily development stalwarts don’t dispute the condo conversion formula, current demand for apartments seems to suggest that the rental monster will rule for the foreseeable future. “Lenders have returned to traditional down-payment requirements; as a result, people will tend to buy their first home later in life,” says Noel Johnson, city partner for the Northwest region for Phoenix-based multifamily developer Alliance Residential. “This will likely minimize condo conversion activity.”

Chicago-based Fifield Cos., which moved to condos in the early 2000s before dropping out of the market in 2004, doesn’t see an upshot in chasing condo conversions today. “We’re extremely bearish on condos,” says Fifield chairman and CEO Steven Fifield. “We left the condo business in Chicago in 2004 because we saw a huge supply coming and couldn’t understand where the demand was going to come from. The 25- to 35-year-olds who make up about 85 percent of our renters want flexibility and don’t want to be tied to a mortgage. They expect job transfers, marriage, or might even still be in danger of losing a job.”

Others in the industry suspect that some developers are already planning to have projects breaking ground today as apartments see higher valuations (and a better disposition ROI) as condos when completed in the next two years. “If you bring a condo project to a lender, they are going to insist that it be underwritten as a rental and size their loan based on that, rather than what the market suggests for condos,” says Bill Witte, president of New York–based Related Cos.’ California division, which just finalized both equity and debt financing for a 420-unit project in Santa Monica that will split evenly between for-sale condos and affordable housing rentals. “That location has seen zero product in a submarket that has held up quite well, but we’re looking at some projects that other developers are doing in urban areas; they really don’t seem like they pencil out, and we expect [they] are intended to convert as soon as the market turns, and we believe it will.”