The economic engine driving Phoenix has, from its very beginning, been characterized by the five C’s: cattle, climate, copper, citrus, and cotton. It’s a long and storied history in the American Southwest—one that underscores hard work, perseverance, and an ability to put our resources to their highest and best use.
Although most of these economic drivers have changed, Phoenix continues to maximize its greatest resources, which today include powerhouse industries such as technology, health care, and education. These clusters have allowed the city to expand faster than expected and, much like its namesake, to rise from the ashes of the Great Recession stronger and more diversified than ever before.
Phoenix’s multifamily market has demonstrated the same resiliency as the rest of the metro, with a surprisingly fast post-recession recovery, from both an operational and an investment perspective. Such elasticity—the ability to snap back to healthy fundamentals—safeguards the city’s position as a true growth market and an always-viable choice for private and institutional investment. It is an environment that accommodates everyone, from contrarians, who are looking to time market cycles, to institutional buyers, who will accept periodic dips but ultimately demand a steady long-term growth trend.
An Unexpected Recovery
Interestingly, the Phoenix single-family housing market is one of the driving forces behind the local multifamily recovery. So much so, in fact, that the city’s housing market downturn has turned into a recovery that few, if any, expected. According to Arizona economist Elliot Pollack, the metro-area median home price rose 35 percent during the past year and is expected to increase another 50 percent by the end of 2015–16. The underpinning of this housing recovery—and current and past recoveries, in general—has been population growth. Over the past year, the metro Phoenix population has increased by 127,000, or 3 percent. According to Claritas, the state of Arizona over the next five years is projected to gain more than 693,539 new residents, or almost 138,708 new residents per year. Of this amount, approximately 73 percent are projected to land in the Phoenix MSA.
This continues Phoenix’s standing as a top growth market, ranked for the past 20 years by the U.S. Census Bureau as the third-fastest growing MSA in the United States. As the sixth-largest MSA in the nation, metro Phoenix will continue to expand, the Census Bureau projects, benefiting from the nation’s fourth-largest nominal population increase. This tandem of a large population base combined with continued above-average expansion potential makes the Phoenix area one of the most promising regions in the country.
Last year saw Phoenix climb out of its employment slump as the MSA added more than 30,000 jobs, with a broad base of sectors continuing to diversify the market and provide momentum. According to Boston-based Property and Portfolio Research (PPR), Phoenix employment expanded by 1.85 percent in 2011, compared with the national average of 1.2 percent. Most experts view this emergence as the start of a prolonged employment boom—a stance that is supported by the University of Arizona’s Economic Outlook, in which forecasters project 24.5 percent job growth, or almost 417,800 new jobs, for metro Phoenix from 2011 through 2017. This growth is anticipated to take place in a few key powerhouse industries; namely, technology, health care, and education.
Technology: Projects including Intel’s $5 billion microchip fabrication-plant expansion have earned metro Phoenix recognition as the “Silicon Desert.” On the economic front, the Intel project alone generated an additional 1,000 jobs at a facility that is recognized as the most advanced high-volume chip-making plant in the world. In 2013, Intel will celebrate the opening of another new Phoenix property, a $300 million research and development facility that continues the trend of generating local, high-wage positions.
Health care: Phoenix has long been associated with its fantastic climate and thus has been a popular destination for young job seekers and retirees alike. The latter group has generated significant growth in the health-care sector and continues to diversify the economy. One example is the Mayo Clinic’s commitment to the area, with its hospital and separate outpatient clinic. In 2011, Mayo announced further expansion of its campus, from 5.9 million square feet to more than 8 million square feet, making it the largest Mayo Clinic facility of its kind in the world.
Education: Arizona State University has become the largest public university in the country, with more than 72,000 students enrolled. This includes ASU’s increased enrollment at its downtown campus, which now stands at more than 9,000 students, thanks to its graduate programs in journalism, its medical school, and various other graduate offerings. The significance of this growth, along with the local presence of several other colleges and universities, is making Phoenix more attractive to employers seeking a strong, educated job base for growth.
A New Development Landscape
These varied economic drivers are bringing new residents to Phoenix and spurring demand for multifamily product. Across the nation, multifamily developers have successfully acquired land that had previously been too expensive for multifamily construction. These sites were generally earmarked for office, retail, or mixed use, but the absence of financing for them has now ultimately benefited the multifamily developer.
These parcels are also typically more urban than suburban. And, much like the rest of the country, the Phoenix development landscape has changed nationally from a more suburban to a more urban type of product. As a result, markets that traditionally have been high-barrier-to entry for developers are now experiencing unprecedented new development, in part because of demand and in part because of the new availability of urban Class A land locations.
Although Phoenix multifamily developers have also benefited from this anomaly, the depth of product being delivered here is relatively small compared with that in other Western markets, such as San Francisco and Seattle. One reason for this difference can be traced to development cost. In Phoenix, the cost for urban-designed units is ranging from $160,000 to $190,000 per unit, versus suburban-designed apartments that are currently being delivered at $125,000 to $145,000 per unit. This incremental development cost difference leads to increased rents—an average of $1.45 to $1.95 per square foot for urban space versus $1.10 to $1.40 per square foot for suburban rents. As such, the developer of an urban property must not only be able to secure financing for construction but also be able to prove its ability to attract a much smaller pool of renters capable of paying the higher rents. And so, while there are many projects in the Phoenix multifamily development pipeline, only the best and brightest are currently making it to market.
As a result of their excellence, these top Phoenix multifamily developments continue to thrive, ending the second quarter of 2012 ahead of expectations. Rental rates were up considerably, at an average of $774 per month compared with $754 per month in the first quarter of the year. With positive absorption of 268 units during the second quarter (2,754 units year over year), vacancy decreased from 9.8 percent in the fourth quarter of 2011 to 8.6 percent at the end of the second quarter of 2012. This vibrancy is keeping liquidity and demand in the market strong, with Phoenix rising to third in the nation in terms of total dollar volume of sales. By August, velocity had already surpassed the prior year’s total dollar volume of $1.49 billion.
This slow and steady improvement is one of Phoenix’s great advantages and ensures the consistent but metered building of Class A projects on Class A sites—properties that are propelling this metro market from a cookie-cutter suburban apartment mecca into a diverse and powerful multifamily leader.
John Cunningham is an executive vice president with Jones Lang LaSalle Capital Markets.