The expansion of the U.S. auto industry is rippling through Cleveland's manufacturing sector. The metro gained more than 3,500 manufacturing-sector jobs over the past year, and in the first three months of this year alone, local employers added roughly 1,500 workers. Ford Motor Co., for example, announced plans to invest $128 million in its Avon Lake assembly plant, a move that's expected to create hundreds of jobs over the next three years.

As the employment picture brightens, Cleveland's apartment owners have reason to smile. Robust renter demand, combined with a dearth of new construction in the past two years, is expected to compress vacancy rates to a 16-year low. The impact will be felt most in areas closest to employment hubs, such as University Circle, Downtown, and Lakewood.

The few new developments that are coming on line are expected to ride a rising tide that lifts all boats. When the 114-unit Uptown complex opens its doors in University Circle midyear, for instance, the owners will ask for the highest rents in the metro, potentially setting a new benchmark for Class A rates.

High barriers to entry continue to hamper new development in Cleveland, as no apartments were completed in the first quarter. Last year, only 38 units were delivered, and those belonged to University Lofts in the East Cleveland/ Cleveland Heights submarket. Roughly 460 apartments are under construction, with completion dates stretching into next year, while more than 700 units are proposed.

Developers recently broke ground on Campus Village, a $50 million mixed-use project bordering Cleveland State University. The community will contain 318 market-rate apartments, and construction is expected to be completed by 2013.

2008 6.1%
2009 6.9%
2010 5.6%
2011 4.4%
2012 4.2%*
2013 4.1%*
2014 4.2%*
2015 4.0%*
2016 3.9*%
*Projected Source: Reis

The single-family sector's woes are also helping the apartment market. Consider that permitting activity for single-family housing dropped 23 percent in the past year, to 1,325 units. Meanwhile, renter demand prompted developers to obtain 220 multifamily permits, a 70 percent increase from a year ago.

Add It Up

Cleveland's vacancy rate has declined every quarter since peaking at 7 percent in early 2010. In the past three months alone, vacancy rates metrowide have fallen 30 basis points (bps) to reach 4.1 percent. Over the past year, tenants absorbed more than 1,250 additional units, sending vacancy rates down by 110 bps. The news is even better for the Class A sector, where vacancies fell 120 bps over the past year, to reach an all-time low of 3.3 percent.

The North Olmstead/Fairview Park submarket saw the most dramatic compression over the past 12 months, as vacancy at highend properties dropped 290 bps, to 3.4 percent. Robust demand for Class B and C units in the Downtown/The Flats/Warehouse District submarket helped drive down the overall lower-tier vacancy rate 110 bps in the past four quarters, to 4.4 percent.

As such, effective rents have risen 0.7 percent during the first three months of 2012, to $709, while year over year, rates have climbed 2.5 percent. Strong demand for Class A apartments allowed owners to raise rents 2.4 percent in the past year, to $925 per month. Similarly, landlords hiked Class B/C asking rents 2 percent, to $667 per month.

The sharp increase in effective rents helped reduce concessions to 16 days of free rent at the end of the first quarter, while the rise in occupancy boosted average revenues 3.6 percent over the past year.

Money Talks

Sales velocity will accelerate this year, at both the low and high ends of the market. Investors buying distressed Class B and C properties are increasingly qualifying for inexpensive bank debt, with loan-to-value ratios ranging from 75 percent to 80 percent.

In general, buyers are paying roughly $7,000 to $16,000 per unit for REO assets, performing upgrades and attempting to stabilize the properties within 18 months. Once the property is well-occupied, buyers with shortterm horizons will sell the asset at around a 9 percent cap rate, while investors with longer holding periods will likely refinance.

In the Class A sector, low interest rates and rising property values will entice developers to list their performing assets for sale. Due to the rarity of these top-tier properties and intense competition from buyers, initial yields could dip below 7 percent for some properties.

The Cleveland apartment market has weathered the Great Recession and is now enjoying the fruits of recovery. Rents are forecasted to grow between 3.5 percent and 4.7 percent annually for the next five years, while vacancies stay around 4.1 percent out to 2015, according to New York–based market research firm Reis.

Michael Glass is vice president and regional manager, and Michael Barron and Daniel Burkons are vice residents of investments, in the Cleveland offi ce of Marcus & Millichap.