In the midst of turmoil in the investment and capital markets during the past two years, the multifamily industry has emerged as one of the strongest and safest investment vehicles. However, debate rages within the industry regarding its current health and its direction.

An obvious fact that has fueled concern is that although net cash flows from operations have decreased over the past two years due to concessions and even rent reductions in certain markets, capitalization rates have dropped by 50 to 100 basis points, and prices have actually increased. Many within the industry have raised the argument that we are in a "pricing bubble" that can't be sustained. However, despite the concerns raised by certain investors, there is no shortage of buyers in the market and tremendous demand exists.

The reality is we are in uncharted waters. Historically, the apartment market has behaved in a certain way as the general economy and the apartment industry has entered, occupied, and climbed out of the recessionary side of the business cycle. The current recession has been very different from those in the past and, as a result, apartment investors must reevaluate their strategies in order to recognize and take advantage of current and future opportunities.

A Different Apartment Recession The current recession in the apartment industry is distinctly different from those in the past, and these differences are creating uncertainty in the market. Here are five specific examples:

1) Usually in an economic downturn, the stock market outperforms the apartment market and as a result, there is a shortage of equity for apartment investment. Currently this isn't the case and it's having a major influence on apartment pricing. Two years ago an investor had the opportunity to invest in the non-dot-com sectors of the stock market and realize a 14 percent to 16 percent yield. At the same time, an investment in the apartment market might have returned a yield of 10.5 percent to 11 percent. Therefore, most of the investor's capital was allocated to securities, with only a portion invested in apartments for the sake of diversification and a potential inflation hedge.

Within 12 months this yield relationship flipped 180 degrees. Most investors now predict average yields in the stock market of 4 percent to 6 percent over the next few years while apartment fundamentals remain fairly stable. When investors were comparing 11 percent apartment yields to 15 percent in the stock market, apartments had one level of attraction. However, an 11 percent yield in apartments compared to a 4 percent yield in the stock market is a very different situation and as a result, investment capital has been pouring into the apartment industry. This has led investors to "bid down" yields and has decreased capitalization rates and increased prices.

Investors who raise concerns about this situation compare the low-9 percent yields today to the 11 percent yields of two years ago. They make the case that prices are too high. Investors who are actually closing transactions today are comparing the low-9 percent yields in the apartment industry to alternatives at 4 percent to 6 percent in the stock market. Investors remain ready, willing, and able to stretch even more for the right deal. It's a classic function of supply and demand. There is significantly more demand for apartments, and as a result, buyers must compete more aggressively to be selected as the ultimate buyer.