Yes, you’ve heard it countless times before, but make no mistake: The Echo Boomers are coming. Some 70 million of them are filtering through the prime renter age demographic of 20 to 34 over the next decade, and they’ve either been burned or have seen friends get burned in the single-family sub-prime fracas. They’re tech-savvy, willing to pay a premium for quality in design and service, and are gradually getting sick and tired of the roommates they doubled up with or the parents whose homes they’ve grudgingly accepted as an economic refuge of last resort. Juice up the job market, and they’ll be unleashed into the multifamily apartment sector, which, by the way, has seen little (if any) new development action going on two years now.
Indeed, the long-term fundamentals for the multifamily apartment market look great: Shadow market inventories and concessions are expected to eventually burn off; renters will likely double-down into one-bedroom floor plans and trade-up in product class; and millions of new renters will flood the market just as the supply shortage becomes more tangible. By all accounts, the years between 2011 and 2015 should be the best the multifamily industry has ever seen, with supercharged rent growth made possible by the pricing power of stratospheric occupancies. It’s shaping up to be a huge business-growth banquet that everyone will be invited to. The only ticket to entry? You have to get punched in the stomach a couple of times with 2009 to 2010 market realities before you can move forward.
“Somewhere along the way, if the economy is growing at 3 percent to 4 percent by 2011 or 2012, we’ll have to add 1.5 million to 2 million jobs,” explains Hessam Nadji, managing director of research services for Encino, Calif.-based multifamily brokerage and advisory services firm Marcus & Millichap. “When that happens in combination with the shortage of supply in the construction cycle, that’s when a true multifamily rent recovery begins to occur. From 2012 to 2015, those three years should be among the best, if not the best, in modern history for rent growth. But at this moment in time, multifamily rents are still falling.”
Falling also are multifamily occupancies, with a national vacancy average hitting anywhere from 7 percent to 15 percent (depending on data source and statistical methodology), and additional pain is expected throughout the course of the year. “Our view is that we are not at the worst of the market yet, but we are getting there,” says Peter Muoio, managing principal of New York-based independent real estate research and consulting firm Maximus Advisors. “If you cobble together several sources, the national vacancy rate is hovering somewhere around 8 percent. We think that will even go a little bit higher in 2010. We are near the peak of vacancies, but they will not begin to improve until we are heading into 2011.”
As with all things rent-related, wide variances exist from region to region, market to market, and neighborhood to neighborhood, but generally speaking, things have been bad across the board since the fourth quarter of 2008 and the entirety of last year, with operators exposed to markets in the Southeast and Southwest (including Florida and Arizona) experiencing some of the greatest deterioration in rents and occupancies. “We have individual properties that are 100 percent occupied, but you can contrast that with some in the portfolio that are in the high 70s,” says Rob Couch, president of Atlanta-based Lane Co., an owner/operator and fee manager of some 27,000 properties, mostly in the Southeast. “If you had to characterize our entire portfolio across the board, occupancies are in the mid-80s. I’d like to think that we bottomed out a couple months ago, but we are not yet seeing improvements.”
Passing the 8 percent national vacancy metric puts multifamily apartment operators in a historically-perilous position, and the close watch on fundamentals for signs of bottoming out shouldn’t be underestimated. One positive sign: Net absorption is on the rise. Positive absorption beginning in the third quarter of 2009 jumped to 9,789 units in the fourth quarter, even as developers delivered 28,000 of the year’s 120,000-plus units to the U.S. market during that period, according to a year-end sector analysis by New York-based real estate analysis firm REIS. Still, delivery of those units further weakened the market, particularly from a concessionary standpoint. “Newly-completed properties represent intensifying competition for existing buildings given the difficulty of attracting new tenants and retaining existing ones,” the REIS report notes, “and it is reflected in the massive decline in asking rents.”
Positive absorption, however, could very well signal an end to the occupancy drain that has been sucking the life out of asset net operating incomes (NOI). “The worst of it is over,” Nadji asserts. “Third-quarter net absorption last year was positive for the first time since all of this began. Rents continue to fall, but the first sign of stabilization is that you have positive absorption. Some folks are projecting another full point drop in vacancies in 2010, but I just don’t see it. We think occupancies will fall a little bit more by the time it is all said and done, but we are looking at 2010 as a year of stabilization.”
There’s little secret why multifamily rent fundamentals have been hit so hard: Job losses, the shadow market of single-family and condo rentals, and the phenomenon of residents doubling up have all stressed occupancy levels and the corresponding pricing power that enables owner/operators to push market rents. In and of themselves, the market stressors to multifamily are not necessarily a new phenomena in an industry that historically competes with the single-family home market and is dependent on both job and household creation. But the current, simultaneous collusion of negative business trends has not been seen before by multifamily market watchers, who remain wary of short-term cycle improvements.