San Francisco offers multifamily investors and owners a variety of products, diverse architecture, and solid returns.
San Francisco offers multifamily investors and owners a variety of products, diverse architecture, and solid returns.

  Located at the tip of the San Francisco Peninsula, San Francisco is one of the most densely populated cities in the country. The greater city and county boast a population of 764,976 as of 2007. That makes San Francisco the fourth most populous city in California and the 14th most populous city in the United States.

Despite a lull in local economic growth and uncertainty on Wall Street, which has trickled down to the city's financial services industry, high barriers to entry sustain investor interest in San Francisco apartment assets, and apartment fundamentals in the area continue to perform solidly. Even with home prices declining from their peak, the affordability gap between renting and owning remains substantial enough to keep a sizable portion of residents in the renter pool, which will sustain demand for apartment properties. Meanwhile, development activity is limited, which should keep inventory levels in check and minimize any supply-side threats in the short-term. In the years ahead, however, apartment construction may ramp up, as San Francisco's planning commission recently approved a 2 million-square-foot industrial rezone that would allow for thousands of new residential units to be constructed in the city. If passed by the board of supervisors, this plan could allow dozens of projects previously on hold to move forward, bringing new life to the Mission Bay, Showplace Square/Potrero Hill, east South of Market, and central waterfront neighborhoods.


The current financial crisis and the Congressional debates over the federal bailout of the nation's financial institutions will have a direct impact on the San Francisco apartment market. In particular, the banking industry will further tighten credit standards in the short-term. Lenders are also placing greater weight on property quality and location, shying away from riskier deals that rely heavily on future rent and occupancy gains. Financing properties in tertiary markets has become most challenging, with many major lenders avoiding these markets altogether. Fortunately for apartment investors, demand remains strong and very few neighborhoods in all of San Francisco County are considered tertiary markets. U.S. Treasuries will remain at current lows during the short-term as investors continue to flee to safety. But Treasuries are expected to rise as the credit markets stabilize with federal government intervention during the next 12 months.

Developers completed 100 apartment units through the third quarter of 2008, though there have been no deliveries year to date. Historically, builders have added roughly 700 units to inventory each year. Builders are expected to ramp up development activity in the years ahead, as there are nearly 1,100 units currently under way, nearly all of which are scheduled for completion in 2009 and 2010. This includes 440 units on Market Street by Trinity Properties and 260 units in the Mission Bay Area by Avalon Bay. The pipeline consists of roughly 1,700 units in the various planning phases. Condo construction has accelerated as the pace of rental development has eased during the past year. Builders have focused on the expanding South of Market area, where nearly 800 condos were slated to come online in 2008, and more than 6,000 for-sale units are in the pipeline for the coming years. Apartment inventory stayed at current levels this year, as there were no units scheduled for delivery. Condo development activity, meanwhile, is robust as approximately 2,300 for-sale units were scheduled to come online by the end of the year.

Roy Wiemann

In the third quarter, approximately 600 annualized single-family permits were issued, nearly 40 percent fewer than in the previous period. Multifamily permit issuance experienced a sharper drop, declining 70 percent to roughly 1,600 annualized units. The median single-family home price has softened an estimated 15 percent year over year to $742,000. Despite the decline in prices, the median household income required to qualify for a median-priced single-family home is only 40 percent of the purchase price. Using traditional financing, the average mortgage payment for a median-priced single-family home in San Francisco is approximately $1,500 per month more than the average Class A asking rent. San Francisco's low home affordability, combined with stiffer residential lending requirements, will continue to support a wide pool of prospective renters.


Though tourism is a big driver of San Francisco's economy, its economy has increasingly become tied to that of its Bay Area neighbor, San Jose, and Silicon Valley to its south, sharing the need for highly educated workers with specialized skills. Year over year through the third quarter, employers added 5,100 positions, representing a rise of 0.6 percent. Approximately 25,700 new hires were added the same time one year ago. Despite only moderate gains in San Francisco's overall workforce, the professional and business services sector has outperformed, with 2,600 new hires, or a 1.3 percent gain, year over year in the third quarter. The restructuring collapse of some large investment banks could weigh heavily on employment in San Francisco's financial sector in the months ahead. About 2,400 jobs could be in jeopardy given the city's presence of firms such as Lehman Bros., Merrill Lynch, and AIG. A slowdown in local economic conditions will hinder corporate expansion this year, as employers are forecast to expand payrolls by 0.5 percent, with the addition of 4,500 positions.

This six-unit multifamily building, located on Masonic Avenue in San Francisco, sold for $1.48 million. The Edwardian-style building was recently renovated with fresh paint and upgraded electricity.
Marcus & Millichap This six-unit multifamily building, located on Masonic Avenue in San Francisco, sold for $1.48 million. The Edwardian-style building was recently renovated with fresh paint and upgraded electricity.

Despite a slowdown in employment expansion, solid renter demand has sustained occupancy levels. Preliminary figures indicate that vacancy ended the third quarter at 3.9 percent, down 20 basis points from the same time one year ago. Limited additions to stock and demand generated through healthy growth in the typically higher paying professional and business services segment enabled Class A vacancy to improve 10 basis points year over year to 5 percent. Affordable housing remains limited on the peninsula, supporting elevated occupancy levels in the lower tiers. During the past 12 months, Class B and C vacancy has slipped 20 basis points to 3 percent. Although there has been a slowdown in employment-related demand this year, occupancy levels will remain tight. Vacancy is forecast to record a 10 basis point uptick to 4 percent by year's end.

Average asking rents ended the third quarter at an estimated $1,946 per month, up 7.4 percent year over year. Effective rents, meanwhile, advanced 7.5 percent to $1,848 per month during the same period. Class A asking rents have climbed 7.5 percent year over year in the third quarter to $2,390 per month. Asking rents in the metro's lower tiers posted solid gains as well, rising 7.3 percent to $1,578 per month. Tightened vacancy and strong effective rent gains resulted in healthy revenue growth during the past year. Average revenues expanded 7.7 percent through the third quarter. By year's end, however, a modest slowdown in rent growth is expected to cool revenue expansion somewhat. Although rent growth will ease from last year's aggressive pace, the San Francisco metro is still projected to record some of the country's highest rent increases. Asking and effective rents are each forecast to advance 5.7 percent to $1,967 per month and $1,865 per month, respectively.

The San Francisco apartment market still garners strong investor interest, despite the capital markets turmoil, though some buyers have been approaching potential deals less aggressively, resulting in longer marketing times and easing sales velocity. Despite the drop-off in activity, solid revenue gains have resulted in valuations pushing higher during the past 12 months. The high-end segment of the market continues to prosper due to an active institutional presence, while private local buyers looking to allocate exchange capital continue to seek out properties trading below the $5 million mark. Some sellers with mid-range listings priced between $5 million and $15 million, however, may have to realign expectations in order to close deals, as buyers have been approaching deals less aggressively than a few quarters ago. Cash-laden buyers may discover opportunities in this area by taking advantage of attractive value-add deals that might not have been available at the peak of the market last year, capitalizing on strong tenant demand by capturing rents at current market rates.


Considering San Francisco?

Here's what you need to know:

  • Population: 1.7 million
  • Occupancy: 96%
  • Median Age: 40.3
  • Median Household Income: $73,180
  • Average Rent: $1,825
  • Unemployment: 4.7%
  • NOTABLE: The Golden Gate Bridge has always been painted orange vermilion, deemed “International Orange” and was selected by consulting architect Irving Morrow. The bridge is called the Golden Gate because it refers to the Golden Gate Strait, which is the entrance to the San Francisco Bay from the Pacific Ocean. San Francisco cable cars are the only moving National Historic Landmark, and 9.7 million people take a 9-mile-per-hour ride on them each year. At the Cable Car Museum, 500-horsepower electric motors turn the endless cable loops.


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