Best Multifamily Bets for 2009

By Teresa O’Dea Hein, Managing EditorGlobal recession, tight credit, nationwide layoffs and volatile gas prices have cast a harsh light on America’s multifamily markets. “Flat is pretty darn good this year—that can put a metro area in the top tier of all U.S. markets,” predicts Greg Willett, vice president for research and analysis at M/PF YieldStar Inc., based in Carrollton, Texas. “Bullish is a relative term for 2009,” Willett says. Job losses and competition from shadow inventory will pose significant challenges, industry observers warn.Nationwide, employers continued to slash positions in September, according to the Labor Department. September saw a net loss of 159,000 jobs—the biggest one-month drop in five years and the ninth straight month of losses. Year-to-date losses reached 760,000, across a wide variety of sectors. The unemployment rate, meanwhile, remained at 6.1 percent. Also in the third quarter of 2008, Fannie Mae reported its fifth consecutive quarterly decline, a record loss of $29 billion as the housing slump deepened and it wrote down a tax-related asset that had buoyed capital. Freddie Mac reported a similar loss; neither forecasts a brighter future soon.Against this background, the landscape across the U.S. is less than promising for 2009. While this article focuses on the top multifamily markets for 2009, it must be noted that most industry observers are, not surprisingly, less than optimistic about prospects for the coming year. In its recently released 30th annual “Emerging Trends in Real Estate,” published in cooperation with PricewaterhouseCoopers LLP, The Urban Land Institute (ULI) notes that ratings for just about all U.S. markets declined markedly from its 2008 report. So, rather than call current market prospects “hot,” one could almost call them the “not-so-bad prospects for 2009.” ULI trend-watchers predict that the most promising locations are infill areas and center cities, with developers and investors continuing to steer away from outer suburbs and more auto-dependent areas. ULI advises, “Developers can’t miss securing project sites near light rail stops and train stations.”Investments in public transportation were in fact approved by an overwhelming margin in Seattle last month, where voters passed a $17.9 billion proposition to expand light rail and boost other transit—this was the largest of 22 such measures nationwide in 2008. California’s recently ratified SB 375 anti-sprawl bill calls for California Environmental Quality Act (CEQA) streamlining of residential or mixed-use projects, and transit priority projects.Coastal global ports of entry continued to offer the most promise as far as both ULI and YieldStar are concerned. Overall, ULI noted that in this tight economy, there is a “flight to quality,” and prospects dim for secondary and tertiary cities. “Active management will be the story for successful owners in 2009,” predicts Dan Fasulo, managing director at Real Capital Analytics. “The easy money is gone. You have to manage carefully.” Indeed, “generating more NOI out of the same rent—squeezing out every last dime of net income,” will be even more important in 2009, points out Tom Parsons, senior vice president and general manager of Opus Northwest, Seattle.The fact that more developments are incorporating sustainable features is helping control operating costs, Parsons adds. Portland and Seattle, for example, offer incentives, such as zoning considerations, for environmentally conscious communities.Fasulo predicts that 2009 will see a number of construction projects that do not get finished, as a few have already been halted across the U.S. For example, due to financing challenges, construction recently stopped on the Heritage at the Stoneleigh condominium, adjacent to the restored landmark Stoneleigh Hotel and Spa in Uptown Dallas. Ten floors of the 22-story tower have been completed. Still, while Texas is obviously not a supply-constrained market, Willett, Fasulo and ULI do like the 2009 prospects of some Lone Star metros. According to ULI’s 2009 “Emerging Trends in Real Estate,” the most promising markets for 2009 include its number-one choice, Seattle, followed in order by San Francisco, Washington, D.C., New York and Los Angeles. Except for LA, these top five cities have the 24-hour fundamentals that ULI has praised for years and all link directly to offshore markets through major airports and/or major ports. ULI’s other favorites for 2009 include Houston, Boston, Denver, Dallas and Chicago, respectively.Houston returns to ULI’s top 10 after more than a decade thanks to what had been, until recently, a surging energy industry. In fact, Houston and Dallas are the only markets that registered ULI rating increases over last year. YieldStar’s 2009 favorites, on the other hand, include Washington, D.C. in first place, followed by Denver, San Francisco, Fort Worth, Minneapolis, Pittsburgh, Raleigh and San Diego.Opinions are also mixed regarding other metro areas like Chicago, Seattle, Austin and Boston. The Windy City moved up two slots to 10th place this year in the ULI “Emerging Trends” survey. Even though there is a glut in condominiums and overall occupancy rates are down, fans like the city’s mass transportation and infrastructure, as well as the buzz surrounding the city’s 2016 Olympics bid. While Seattle is popular with the ULI respondents, RCA’s Fasulo and YieldStar’s Willett says it is about to get a lot of new product, “delivering a much bigger block of new supply at the same time as the economy slows.” ULI says, “Even though Seattle takes hits from WaMu’s demise and Starbucks downsizing, it is a brainpower center with an increasingly diversified economy as well as an important Pacific port.” Opus is a developer who remains bullish on the Northwest. At the moment, it has nine multifamily projects underway in various stages in Seattle and Portland markets. Moving south, Fasulo believes that the presence of government, education and medical facilities is a stabilizing factor in Austin. “I think Austin is an intelligent hub that draws people there, like Boston, but it all depends on which subsector you’re in.” On the other hand, Willett worries that Boston will see job cuts in tech and finance. Potential Bright Spots for 2009Washington, D.C.Current Performance: Occupancy of 94.9%, Annual Rent Growth of 2.8%A change in administration tends to be good for the D.C. markets, Willett says. Already, Washington, D.C. is the healthiest of the nation’s very active apartment construction centers, adds Willett, “and it looks likely to remain that way.” Ongoing development at the start of 2008’s fourth quarter was about 10,400 units, with a sizable block of that comprised of properties that began construction as condos but now will complete as apartments. With that much product on the way and employment growth expected to cool to just a handful of positions, occupancy seems apt to drop slightly during 2009. But rent change should remain positive, translating to mild revenue increases. The District itself looks vulnerable to pockets of softness, Willett warns, partly because there’s quite a bit of shadow market stock available in the form of individually owned condos offered for rent. However, the metro’s suburban neighborhoods in Maryland and northern Virginia appear in solid shape, with substantial rent growth.DenverCurrent Performance: Occupancy of 94.7%, Annual Rent Growth of 2.8%Denver results are helped by its revived downtown and a diversifying business environment that includes energy, aerospace and tech. After Denver experienced an extended period of minimal deliveries, construction activity has increased somewhat. There were about 5,900 units under construction going into 2008’s fourth quarter. Willett points out that the good news is that a big block of that new supply will finish during early 2009, so that gives the metro most of the year to regain some momentum after taking an early hit in its performance. M/PF YieldStar anticipates that the metro’s modest drop in occupancy for 2009 will be countered by still slightly positive rent change, leaving
overall revenues essentially flat.MinneapolisCurrent Performance: Occupancy of 95.2%, Annual Rent Growth of 3.9%Minneapolis ends 2008 with occupancy in good shape and rent growth registering at a healthy pace. Ongoing construction is minimal, with permits for only 1,800 units issued during the past year. To remain among the nation’s top tier performers during 2009, then, the metro just has to avoid meaningful job loss, and economic forecasters are anticipating only minor backtracking in the employment tally.PittsburghCurrent Performance: Occupancy of 97.5%, Annual Rent Growth of 3.6%Pittsburgh has quietly become one of the healthiest apartment markets across the country over the past couple of years. While employment additions have been limited, growth has been just enough to gradually push up occupancy in an area that has received virtually no new supply. The metro broke into the ranks of the nation’s top occupancy performers in the middle of 2007 and has stayed there ever since. And in turn, the pace of annual rent growth has accelerated. With only 400 multifamily units approved for construction during the past year, deliveries again will barely register during 2009, so momentum should be maintained as long as job loss is contained to the handful of positions expected by leading economists.RaleighCurrent Performance: Occupancy of 92.7%, Annual Rent Growth of 1.3%YieldStar now likes the Raleigh multifamily market more than Charlotte’s, what with the latter city’s reliance on the now-challenged banking sector. At the same time as job cuts are coming, Charlotte’s multifamily inventory is growing by one-third in the next 18 months. Raleigh has experienced a recent building boom that has weakened both occupancy and rent growth. However, that burst of building activity now is winding down, with construction going into 2008’s fourth quarter at 3,300 units, many of them finishing right at the end of 2008 or in early 2009. Leading economists remain optimistic that Raleigh will manage to produce a reasonably healthy block of additional jobs in 2009, providing some underlying support for housing demand. In the worst case, then, this market’s performance seems apt to hold essentially stable during the coming year.San DiegoCurrent Performance: Occupancy of 96.3%, Annual Rent Growth of 3.5%San Diego’s apartment market is in surprisingly good shape for a metro where job loss is occurring and where a very high foreclosure rate is boosting the selection of shadow market rental alternatives. Unlike in most other areas, the presence of inflated numbers of for-lease single-family homes doesn’t seem to be having too much negative impact on the apartment sector, likely because these shadow market options tend to be too expensive for the typical apartment renter. With 3,100 apartments under construction at the beginning of 2008’s fourth quarter, near-term deliveries seem likely to outpace apartment demand, resulting in a minor dip in occupancy. But rent growth should be sustainable at levels strong enough to yield at least a little revenue increase during 2009.San FranciscoCurrent Performance: Occupancy of 96.4%, Annual Rent Growth of 3.2%While San Francisco’s annual rent growth rate has cooled off from the previous double-digit pace, increases remain well above the national norm. And occupancy is holding strong. Ongoing building at the start of fourth quarter 2008 was roughly 2,500 units, not an over-the-top figure but more than is typical in this high barrier to entry market, explains Willett. This metro actually has trouble accommodating more than minimal volumes of new supply, since new product is so expensive and targets such a shallow pool of renter prospects. As a result, YieldStar predicts that occupancy may backtrack slightly during 2009, but revenue change should remain in positive territory, with rent increases registering stronger than the occupancy loss.Fort WorthCurrent Performance: Occupancy of 92.3%, Annual Rent Growth of 2.8%While YieldStar admits that Fort Worth starts from a weaker position than most of its top picks, it has some good things going for it. Like the other metros in Texas, Fort Worth is expected to register fairly healthy employment growth that will support housing demand in 2009. And unlike other Texas markets, the metro isn’t experiencing significant overbuilding. Ongoing construction going into 2008’s fourth quarter was at roughly 4,100 units, nearly all of it very close to finishing, so it has most of 2009 to try to gain traction. Willett predicts, “Fort Worth actually might end up as the only metro across the country where occupancy rises during 2009, and in turn rent growth should be sustained as well.”SeattleAnnual rent growth in Seattle had been about 7 percent in the last two to three years, but Parsons from Opus West expects that to slow down to 2-3 percent in 2009. “I see rents flattening out, pausing and then picking up again,” Parsons predicts. The difficult mortgage market will keep renters in apartments that rent for $2,000-$2,500 per month, he believes. And with about 36 percent of Seattle’s population under the age of 40, Parsons believes that a number of them are renters-by-choice who want to stay in the downtown market.New YorkNew York’s fiscal woes are deepening as more Wall Street institutions make headlines, for the wrong reasons. Yet, in Manhattan, the average price per square foot of all new development was $1,320 in the third quarter of 2008, down 1.5 percent from the prior year quarter, according to the most recent Miller Samuel market report. However, the average price per square foot of a re-sale apartment was up 4.3 percent to $1,142 per square foot. A Brown Harris Stevens brokerage report noted that the average Manhattan apartment price fell from the second quarter of 2008, but was up 12 percent over the past year to $1,473,351. BostonMarcus & Millichap’s third-quarter Boston Apartment Research Report says that about 2,900 units are expected to come online in Boston this year, compared with 4,300 units in 2007. The forecasted vacancy of 6.5 percent at year-end 2008 will be 80 basis points more than the rate one year earlier, due primarily to competition between shadow rentals and Class A stock. Asking rents are expected to rise 3.1 percent this year at $1,730 per month, according to Marcus & Millichap, while effective rents will increase 3 percent to $1,649 per month. Despite a modest rise in vacancy this year, healthy occupancy within the Boston apartment market will provide above-average rent gains, especially for lower-tier assets, as more individuals seek affordable housing options, according to Marcus & Millichap. Class A properties continue to compete with shadow stock as a result of robust condominium completions during the past few years.