Portland, Ore.—Trammell Crow Residential (TCR) has placed a big bet on the Portland area, building new projects ranging from a 22-story high-rise at Alexan South Waterfront to 274 garden apartments at Miraval at Villebois and 188 rentals mixed with retail space at North Mississippi Apartments.

TCR's Portland office has six communities under development here, totaling more than 1,500 apartments and condominiums.

Strong fundamentals draw developers to Portland, where apartment rents continue to grow and the percentage of vacant apartments remains low. A weakening economy and a soft market for for-sale homes and condominiums will push the vacancy rate upward this year, but not enough to cause apartment investors any serious heartache.

The vacancy rate will reach 4.9 percent by the end of the year, up from 4.2 percent at the end of 2007, according to a survey of institutional quality apartment communities conducted by market research firm Reis, Inc., based in New York City.

The local experts at the Metro Multifamily Housing Association (MMHA) agree that vacancies are rising. Their survey showed a vacancy rate of 3.6 percent in its fall 2008 report, up from 2.9 percent the year before. MMHA's survey includes more small, mom-and-pop urban properties, according to local experts. Many of those urban neighborhoods have become very desirable, which accounts for MMHA's lower vacancy figures.

The institutional apartment communities that Reis focuses on are also more likely to be direct competitors with new apartment communities opening and condominiums being rented out. Developers will finish 1,081 new apartments in the area this year, according to Reis. That's up from 667 apartments last year. Developers struggle against high construction and land costs to build as many apartments as they can, experts say, but their number of completions is still low compared to the area's 10-year average of 1,420 units a year.

The sagging for-sale housing market has also put pressure on rental apartments. Roughly half a dozen condominium properties, totaling at least 1,200 units, have joined the rental housing market in the last year, according to local market analyst and appraiser Mark Barry, owner of Mark D. Barry and Associates.

For years, the opposite was true. Condominium converters took 215 apartments off the market in 2007 as well as 1,568 rentals off the market in 2006.

Now that the market has softened and financing has become scarce, some condo projects have simply fallen apart. Construction stopped nearly a year ago on the 204 waterfront condos at Salpare Bay, once advertised as “Portland's premier riverfront residence.” This summer, the project's contractor sued developers Salpare Bay, LLC, and Harbor Investors, LLC, for lack of payment, according to local news reports.

For-sale housing prices peaked here in August 2007, when, in much of the rest of the country, prices had already been falling for more than a year. Since 2007, home prices have fallen nearly 6 percent, according to the S&P/Case-Shiller Home Price Index.

“The Portland area single-family market was one of the last in the nation to head south,” said Barry.

Demand for rental apartments has also been weakened by a flat economy. The local unemployment rate rose to 5.5 percent in July from 4.9 percent the year before, and the area added just 3,000 non-farm jobs over the same period. That's compared to more than 30,000 jobs added in 2006.

Still, unlike many markets, Portland is not yet losing jobs, thanks to its strong and diverse economic base, said Barry.

With the vacancy rate still healthy at less than 5 percent, the average effective rents should grow 3.3 percent here to $773 a month from $748, according to Reis, despite the slow economy and the crash in for-sale housing prices.

The weakening economy also is hurting the market for whole apartment buildings. In particular, the crisis in the financial markets is making it difficult to find financing for the acquisition of apartment communities. Apartment investors bought $70 million in apartment assets in the second quarter. That's just a third of the volume from the year before, according to Real Capital Analytics, a research firm based in New York City.

In this market, the only buyers still able to purchase properties are wellcapitalized institutions, according to local experts. Because they tend to buy properties at relatively low capitalization rates, their activity pushed the 12-month average cap rate to 5.5 percent, down from 5.9 percent the year before. Cap rates, which fall as prices rise, represent the income from a property as a percentage of the sales price.

That's deceptive, according to local experts. “I don't care what it looks like it's doing, cap rates are going up,” said Tom Brenneke, president of Guardian Management, LLC. Guardian recently bought three properties in the Portland area, including Waterhouse Place Apartments in Beaverton, Ore.

When Guardian's financing for the Waterhouse purchase fell apart in April, Guardian found a new equity investor and renegotiated the price of the 279-unit community down to $30 million from $32.5 million. The sale closed in August at a cap rate of 5.5 percent, up from 5 percent at the earlier price.

“Cap rates have risen 75 to 100 basis points over the last nine months,” said Kirk Taylor, executive vice president for CB Richard Ellis.