This is no fake-out: Multifamily leaders expect 2006 to be a year of recovery for the industry. Are you thinking, I've taken that bet before and lost big? Weren't '04 and '05 supposed to be years of recovery? Well, huddle up: With the national vacancy rate falling, rents rising, and concessions hovering at a minimum, there's a whole new game plan for the multifamily industry.

These market improvements are due to a variety of factors. Just to name a few: An improving job market is driving rental demand, condo conversions are helping the rental market by shrinking the supply of apartments, and the thousands of Hurricane Katrina victims who are filling vacancies in many sluggish markets, especially Houston.

"We are anticipating a robust recovery," says George Quay, president and COO of Farmington Hills, Mich.-based Village Green Cos. "We have already seen some fairly dramatic improvements in the fundamentals in many of our markets over the past four to five months, and we believe we can continue to build on that in '06."

A recovering market brings a year of renewed opportunities for the multifamily industry. Executives expect to invest more money in acquisitions and new developments than they have in the past few years. Apartment firms are already revamping their sales techniques, teaching leasing agents how to capture much-anticipated higher rents in improving markets. Companies also are taking the time to assess their technology offerings–whether that means fully unleashing the powers of a newly implemented Web-based property management system or expanding online leasing capabilities.

To prepare you and your team for the coming year, here is a look at a handful of multifamily leaders' expectations and predictions in a few key areas.

–Rachel Z. Azoff


Watch for falling–and rising–cap rates. Just because the defense is sneaking linebackers and safeties up to the line doesn't mean there's always going to be a blitz. And, just because it looks like cap rates will go up doesn't mean they will. If you would have asked Tom Osterman last year what cap rates would do in 2005, he would have told you they would go up. He would have been wrong. So this year, Osterman, a partner in New York-based Sterling Equities, is staying out of the prediction business.

"I'm confused by the fact that cap rates haven't gone up," admits Osterman, whose firm owns and operates 15,000 multifamily units around the country. "I'm surprised cap rates have stayed this low for this long. That's why it's been so difficult to buy and why we've been a net seller."

Eventually, Osterman thinks interest rates and rising national debt will pull cap rates up. "The interest rates keep going up," he says. "If you look at the macro situation, it's the whole guns and butter stuff, like during Vietnam. You can't keep borrowing, especially with any tax increases and money not getting more expensive. When money starts to get more expensive, that has to impact the cap rates."

While short-term interest rates have gone up, long-term rates have remained stable. "The key factor will be what happens to long-term rates," says Al Campbell, senior vice president for Mid-America Communities, an apartment REIT in Memphis, Tenn. "We expect it will be well into 2006 before long-term rates significantly move. Cap rates will continue to be low, and it will continue to be a competitive real estate market."

Other factors do influence cap rates. If fundamentals improve, apartment values will stay high, Campbell says. People who can't find other investments could also keep cap rates low. "If it's a 6.25 percent cap rate compared to 4.25 percent Treasury, that's still an attractive investment for real estate," he says.

There's only a certain level of value that apartments can reach, says Steve Heimler, president and CEO Stratus Real Estate, a third-party manager based in Woodland Hills, Calif. If people are just buying for appreciation, they may find it very difficult to find buyers (unless they're selling to condo converters). Because of this, Heimler doesn't think cap rates will creep lower. "My crystal ball does not see continued cap rate compression but, instead, a return to cash-flow based acquisition analysis," he says. "The days of appreciation-based purchases will come to an end, and economic fundamentals will once again be important."

Rising interest rates could be painful for some. "When the rates go up, the assumption is that people with floating rates will be in trouble," Osterman says.

While variable-interest loans could burn some people, other financing trends of this past boom, such as more flexibility from Freddie Mac and Fannie Mae and more competitive structures on commercial mortgage-backed securities (CMBS) notes, may be here to stay into 2006 and beyond. "There's a lot of money in the system," says Mid-America's Campbell. "It's been very competitive, and financing has been attractive for borrowers. It has created new products and new structures in the market.

I believe that the market has become so efficient because of those changes that some of those new products are going to stay."

–Les Shaver