Life is good for apartment investors: rents are high, vacancies are low and the outlook for the future looks very, very strong, according to second quarter reports from real estate research firms.
Average apartment rents are growing very quickly. Asking rents grew 0.8 percent in the second quarter and 3.2 percent over the last 12 months, according to New York-based data firm Reis Inc.
Effective rents are also very strong. Rents are growing faster than both the labor market and overall inflation, which limits the ability of landlords to push rents higher.
“Nonetheless, landlords continue to extract whatever rent increases they can,” say Reis researchers.
Effective rent growth was particularly strong in the 100 largest metro areas in the second quarter, averaging 1.9 percent, according to MPF Research. The annual effective rent growth pace, as of the second quarter, came in at 3.5 percent, roughly in line with the figures from Reis.
“Apartment owners and operators continue to have strong pricing power right now,” says Greg Willett, vice president with MPF Research. “Sizable rent hikes are occurring, especially in middle market to bottom tier properties, reflecting the especially tight occupancy rates seen for those units.”
The average vacancy rate for apartments remains very low. About 4.1 percent of apartment units nationwide were vacant in the second quarter of 2014. That’s the same vacancy rate as was reported in the first quarter and down 20 basis points from the second quarter of 2013. “The only time vacancy in the U.S. was lower was during the dot.com boom‐and‐bust days of 1999 and 2000,” according to Reis.
The most improved markets, where the local apartment vacancy rates dropped the most in the second quarter, were smaller cities including Columbia, Tucson, Omaha, Las Vegas, Richmond, and Lexington.
“Markets that had been lagging during the recovery are now starting to gain ground while markets that led the recovery are losing a bit of steam, especially as construction in those markets ramps up.”
Year-to-date, net absorption is tracking ahead of last year’s pace, indicating that demand for units remains resilient four years after the apartment market started to recover.
Caution ahead
So what could possibly go wrong?
Developers completed 33,210 new apartment units in the second quarter, according to Reis.
“Units at brand new properties are being leased about as quickly as they can be delivered in most cases,” says Willett.
More new apartments are on the way. Ongoing construction figures have been averaging between 350,000 and 400,000 units for a year and a half.
“The overall trend in construction is clearly upward,” note Reis researchers. “The market remains on track to deliver the highest level of new completions since 1999, when the economy was growing at a far faster pace than it is today.”
Eventually, the amount of new apartments being completed will catch up with the number of new households that need apartments. That will push the vacancy rate for apartments higher—but not by much, experts say. They expect the demand for apartments to continue to grow as the job market and the rest of the U.S. economy continue to improve.
That’s a very different scenario from 1999, the last time apartment completions were this high. Back then, the rest of the economy was near the top of its business cycle. The dot.com boom was about to go bust. “In previous cycles, the national vacancy rate has usually been pushed up by dwindling net absorption as the economy slows down and then heads into a recession just as construction is accelerating,” according to Reis.
The consensus among economists today, including the analysts at Reis, is that the country’s economy is not in immediate danger of a recession. That’s largely because the Great Recession had it roots in a banking crisis—and it generally takes five to 10 years to recover from that kind of financial panic. As a result, the broader U.S. economy is still much earlier in the expansion part of the business cycle. As the labor market improves, as in did again in June according to the latest reports, it possible that demand for apartments will become even stronger, helping to absorb new units now being built.
“Demand should nonetheless remain relatively strong given the large number of young, single potential renters,” say Reis researchers.
