Don’t look now, but multi­family may be outclassed by a new commercial real estate asset.

It’s been a good run: For at least two years, the apartment sector has held court as the darling of institutional investors. Steady financing by the GSEs in the middle of a credit freeze was one reason why, and as rent fundamentals exploded over the past year and more money came off the sidelines, asset values saw a corresponding run of significant appreciation. According to the National Council of Real Estate Investment Fiduciaries ­(NCREIF)—which tracks $256 billion invested in 6,267 core commercial real estate assets—multifamily notably outpaced the hotel, office, industrial, and retail sectors for an average 2010 equity return of 21.7 percent.

In the first quarter of 2011, however, the tides shifted: The hotel industry beat out multifamily for the top spot on the return radar, generating 3.68 percent back to investors, compared with apartment returns of 3.34 percent.

“There’s higher investor demand for hotels, and the primary reason is daily rentals leading to cash flow,” says ­NCREIF CEO Roy Rendino. “There’s a similar cash-flow story on the multifamily side, as well as availability of financing through the GSEs, but our sense is that people are betting on the fact that as the economy improves, hotels will be able to capture that improvement very quickly in terms of the daily rental rate.”

While apartments likewise have short-term leases, mitigation in capital appreciation (the margin gained from the sale of the asset) has softened returns. Whether that generates a subsequent play on value-add and gets even deeper into opportunistic asset plays as investors seek yield remains to be seen.

“I think you’re seeing all returns compress to some degree as capital becomes quite apparent in every real estate sector,” says Kevin Finkel, executive vice president of Philadelphia-based Resource Real Estate, which manages $2 billion in commercial real estate, including ownership or debt positions in 18,000 units of Class B, value-add–­situated apartments. “The money does seem to be moving toward seeking more opportunistic returns in multifamily, and we are getting a lot of those calls.”

Compression in core apartment asset returns means a lot of equity investors will seek opportunities beyond traditional high-barrier-to-entry markets, benefiting well-located owners in secondary metros.

“I think the first inclination is for investors to venture into other markets before they go into new asset classes,” Rendino says. “We’re talking about a lot of pension fund and endowment money that’s looking for portfolio diversification to spread risk, so allocations to core will look to opportunities in secondary markets before moving to a different asset class.”

Some apartment developers and operators are all too happy to follow the money and make adjustments as the equity chase warrants. “We have a hotel coming up out of the ground here in Philadelphia right now,” says Miles Orth, CEO of Philadelphia-based student housing developer and operator Campus Apartments. “It will be a long-term stay managed by Hilton branded as a luxury Homewood Suites, so combine that with more student housing and watching market-rate development, and we’ve got a lot going on.”

Credit: Glauco Lima/