The Right Balance

Markets in the Southwest find equilibrium between existing supply and rising demand.

In what was one of the hardest hit regions of the Great Recession, a modest yet stable recovery is bringing renewed confidence to once disenchanted investors and operators. Distressingly high unemployment rates are quickly fading, and signs of life in the single-family housing market are paradoxically boosting prospects for apartments.

In Las Vegas, new commercial development and restored activity on the Strip are the main buoys for an apartment sector that saw vacancies as high as 11.8 percent at the height of the recession. And while economic conditions are not yet optimal, they are markedly improved from just a year ago—when unemployment still stood at 12.4 percent.

“I would like to categorize it as slight positive changes,” says Gary Banner, vice president of the multifamily division at Colliers International. “We’re really not going gangbusters with occupancy and rent growth due to the employment circumstances in Las Vegas. However, that’s changing pretty quickly now, and it’s starting to show up in the statistics of vacancy and occupancy.”

Banner notes that the metro’s overall vacancy rate fell 60 basis points—from 6.9 percent to 6.3 percent—between the fourth quarters 2011 and 2012, while unemployment dropped two percentage points. He adds that major commercial projects—such as a new 20,000-seat stadium by the MGM Resorts International and renovations of existing gaming properties—are likely to bring 2.5 permanent jobs per construction job, ensuring population growth and continued demand for housing.

Ryan Severino, senior analyst at Reis Inc., notes that while improvement of major fundamentals continues in both the Las Vegas and Phoenix metros, the region may be finding equilibrium.

“The rate of improvement has slowed down a bit,” says Severino. “If you went back a couple of years ago, you were seeing some pretty serious vacancy compression on a quarter-to-quarter basis. We’re still seeing vacancy improvement in places like Phoenix and Vegas, but just because the markets have tightened over the past few years… the decrease in vacancy is not as pronounced as it once was.”

Ryan further noted the unique nature of the recent recession as compared to previous downturns, as there was a considerable lack of competition between single-family and multifamily once the recovery began. Additionally, developers were cautious about delivering new supply, thus creating high levels of absorption when demand kicked back in.

“What happened was kind of like the perfect storm,” says Severino. “You had a pretty strong rebound in demand without a lot of supply hitting the market and without any real competition from the for-sale market. But that just slows down at some point—vacancies just get so tight that it’s just not palatable at a certain point.”

Yet one side of this dynamic, a pronounced lack of new deliveries, is likely to be maintained in the near term—perhaps leading to further yet less pronounced tightening. Ian Swiergol, southwest managing director at Alliance Residential Company, notes that the construction pipeline in Phoenix continues to represent a “very moderate delivery of new units.”

“Actual permits and unit deliveries still remain well below historical averages, which bodes well for sustained recovery moving forward,” says Swiergol. “Nationwide, multifamily starts are well below the peaks experienced in 2006-07, and metro Phoenix currently is positioned in the lower tier of major metros in terms of construction starts as a percentage of existing inventory.”

Swiergol has confidence that the metro will continue to see population and employment growth in the coming years, and that the region’s greatest bright spots moving forward are the “attractive living environments for individuals, businesses and corporations.”

This point is echoed by Severino, who says that the region has always been attractive to people who hold a certain lifestyle preference, especially in terms of climate and recreational opportunities. “That was a big draw before the recession, and I think once it gets back on track, that story hasn’t fundamentally changed,” notes Severino.

In terms of the best opportunities for investment as things get back on track, Banner notes the unique nature of the market in a recovery and how this tends to make investors seek the more reliable assets before taking risks in others.

“In every recovery, the market cycle always demands the leaders, and the leaders are Class A,” says Banner. “B’s are very close behind, and many private equity funds and private investors prefer that space, so they’re firming up as well as far as demand from tenants and investors. Class C—I really don’t see those lifting off the ground until mid-cycle, so maybe 2016-2017, you’ll start to see action [there].”

However, Banner points to one development in the Nevada State Legislature that could have an impact on rent growth in the coming years. AB 284, a bill passed in the early stages of the financial crisis that stopped all robo-signing foreclosures in the state, is currently being amended—and this could have a considerable impact on single-family rental supply.

“The lender had to provide physical evidence that they had the mortgage instrument. We are now amending that bill in this current session to where it’s ‘reasonable possession,’” says Banner. “Now that’s important because we have a backlog of nearly 40,000 homes that have yet to be foreclosed, and a great many of those are vacant.”

Banner believes that the shortage of supply in single-family rentals has actually translated into higher rents in multifamily, and that once this new wave hits the market, rent growth in both single-family and multifamily will stabilize.

As for single-family homeownership, Severino notes that while this sector is certainly recovering in this region as it is in many places across the country. “I don’t think it’s going to be kind of like this paradigm shift or game changer the way people are thinking about,” says Severino. “The demand is very different. Typical apartment renters, early-20’s to mid-30’s, tend to be single and without children—a little more transient. The kind of person looking to buy a house tends to be a little bit older.”

Severino adds: “So I think you’ll lose some people at the margins, probably the people who put off buying a house because they were waiting for prices to stabilize and maybe waiting for the economy to get a little bit better.”

Yet for those who remain renters, urban core product will undoubtedly remain the most attractive, with a high level of amenities and access to walkable entertainment and recreation.

“We are very excited about the three urban developments we are currently constructing,” says Swiergol. “These properties are located within highly amenitized neighborhoods [and] areas that will allow our residents to better enjoy and take advantage of where they live.”

Alliance’s new properties in Phoenix include the 270-unit Broadstone Camelback in Phoenix, 264-unit Broadstone Lincoln in Scottsdale and 259-unit Broadstone Waterfront, also in Scottsdale. Broadstone Camelback is set for completion this year, while the Lincoln and Waterfront properties will be delivered in 2014.