Strong Fundamentals in New England

By Erika Schnitzer, Managing Editor

Despite its relatively small size, New England is known for having a large percentage of the nation’s top-rated universities, including four of the eight Ivy Leagues. This has helped to make the region relatively stable—though the diversity of industry and a pro-business stance don’t hurt.

Because of this diversity, “things have been coming back in terms of employment, based on technologies and the pharmaceutical/life sciences area,” reports Richard Robinson, president of Apartment Realty Advisors (ARA)-New England and investment partner at Burlington, Mass.-based Nordblum Company, which invests in, develops and manages multifamily and commercial real estate.

In particular, “In eastern Massachusetts, we’re seeing strengthening performance after a quiet two to three years,” observes Paul Donahue, senior vice president, CB Richard Ellis-New England.

While these are positive signs, the cities within the region truly have distinct challenges, as well as opportunities, which a look at the labor figures reveals. According to statistics from the U.S. Bureau of Labor Statistics, the Boston-Cambridge-Quincy, Mass. unemployment rate was 7.1 percent, as of September 2010, compared to the national average of 9.6 percent. Manchester, N.H., meanwhile, saw only a 5.2 percent unemployment rate, which is 80 bps lower than the month prior. Hartford, with its less diverse economy focused on the insurance industry, saw an 8.7 percent unemployment rate (though, admittedly, this is an improvement over August’s rate of 9.4 percent), while Providence is experiencing the highest unemployment rate in the region at 10.7 percent (again, an improvement over August’s 11.8 percent rate).

Fundamentals

Eastern Massachusetts, overall, has seen the end of new supply, and Donahue notes that the area does not expect to see any significant product delivered for at least another two-and-a-half to three years. “A lot of the strength is due to the fact that eastern Massachusetts didn’t have the significant softness of other markets; there was not a lot of overhang of homes and condos,” reports Donahue.

Of all the metro areas in the region, Boston is likely the strongest and most stable, with the real estate market holding up fairly well overall, according to David Cary, Jr., MAI, MRICS, managing director of the Boston office of Integra Realty Resources, a commercial real estate valuation, appraisal and counseling services firm.

Cary does add, however, that the market has experienced some increasing occupancies—the market saw between 6 percent and 7 percent vacancies in the worst of the economy—and increasing pressure on rents, particularly in Brighton and Allston. Properties in the outer beltway around Boston, including 495, are experiencing weaker performance figures.

But it’s not only the state capital that is poised for a strong recovery, points out Robinson. The 300-acre SouthCoast BioPark in Fall River, for example, is expected to create thousands of new jobs, though, at press time, there continued to be ongoing discussion of the types of buildings that would receive permits for the site. And in Holyoke, Mass., ground was recently broken on the Massachusetts Green High Performance Computer Center, which is being made possible by EMC Corp., Cisco Systems Inc. and local universities (including Massachusetts Institute of Technology, the University of Massachusetts, Harvard University, Boston University and Northeastern University) and which is expected to be a “magnet” for corporate relocation, according to a statement by Governor Deval Patrick.

With its relatively inexpensive cost of living, Manchester, N.H., meanwhile, has become a “bedroom community” to Boston, though it offers its own relatively diverse economy, including high-tech, communications, financial services (the city is known as the business and financial center of northern New England), health care and manufacturing. Since the state levies no sales or income taxes, and it recently passed legislation to reduce the state’s insurance premium tax, it is looked upon as a favorable place for businesses.

What’s more, the state delivered almost no new supply in the last real estate cycle, but it has seen an increase in interest from developers, particularly given the lack of available land in Massachusetts.

Rhode Island, meanwhile, is facing double-digit unemployment, as well as a $400 million budget deficit, which, considering the state’s population is only about 1 million people, is substantial, reports Mark Bates, MAI, CRE, FRICS, managing director of Integra Realty Resources-Hartford/Providence. “We have some long-term structural problems here, and as long as unemployment stays high, it [will have] the obvious impact on occupancy rates in apartments and rental rates.”

He adds that the city saw the addition of several high-rise apartment properties over the past four to five years, as well as one high-rise condominium that has entered the rental market. But most of the new developments “have stabilized with good occupancies,” reports Robinson.

Connecticut, overall, is fairly healthy, according to Bates, though the uncertainty in 2009 caused a dip in performance. Now that concessions are leaving the market, the overall area has shown signs of improvement.

But Hartford, dominated primarily by the insurance industry, has suffered more than the state overall. Because of the large supply of affordable housing in the city, rents are mostly driven by subsidies, notes Bates, so they have remained fairly constant over the past three or four years, and occupancy in these properties has even improved to some extent.

Overall occupancies, reports Robinson, are in the low- to mid-90 percent range. Meanwhile, the newer downtown properties that were either built or renovated in the last three to four years, which, Bates says, represents about 25 percent to 30 percent of the market, have seen increasing vacancies and decreasing rents.

At the same time, Fairfield County is driven by the economics of the New York City market, so it has outperformed the capital, as has New Haven, whose economy is driven by Yale University.

Transaction market

Overall, notes Robinson, “You’re getting a more pronounced drop in cap rates in Massachusetts, New Hampshire and Connecticut and a little less in Rhode Island—that’s primarily because of the unemployment rate being relatively high.”

The Boston metro area has seen some movement in the transaction market, notes Cary. “There is tremendous competition for deals,” he reports, with cap rates at about 5 percent, 200 bps lower than any other market in the region. And those Class A properties that are in high demand may even trade at a sub-5 cap, while Class B product around Route 128 are expected to achieve a 6 percent cap.

But that’s not to say much is actually trading, points out Donahue. “We have very few sellers, and even those sellers have proven to be relatively ambivalent about completing sales [since] there’s no foreclosures up here on the larger product.” While, in theory, the market has returned, Donahue points out, “there’s no opportunistic play up here whatsoever. Sellers are not there in any large volume.

“The challenge, in terms of sales volume up here,” he adds, “is the owners have views on value, and they’re coming close to accomplishing that near the city … so some of the properties being brought to market aren’t successfully trading because bids aren’t strong enough.”

One major development in Boston that is up for sale is the former site of Filene’s Basement, located within the Downtown Crossing district, which underwent a redevelopment that included condos, dorms, theaters and restaurants. Initially planned as condos and office space, the site—which is adjacent to the Downtown Crossing MBTA station—is now being marketed by developers Vornado Realty Trust and John B. Hynes III as prime for apartments and retail, just as city officials planned to revoke the project’s permits, following a two-year delay in construction that has, in essence, left a hole in the city’s center.

Connecticut, meanwhile, has seen only eight apartment transactions over $2 million in 2010, and the price per unit has dropped significantly. While between 2006 and 2007, properties achieved an average of $100,000 per unit, the average has dropped to between $70,000 to $80,000 per unit.

“There has been price capitulation on the seller side, and those sellers that are willing to accept the realities of current values are doing deals,” reports Bates. Cap rates dipped from between 8 percent and 9 percent back down to the 7 percent range.

Rhode Island, on the other hand, “is such a small market that it’s difficult to figure out what’s going on as far as trends are concerned,” Bates points out, but the market has had very few transactions regardless. Sellers are mostly staying put and waiting the market out, except in situations where they absolutely can’t. One distressed situation in the city, for example, was a relatively new property that had been purchased for condo conversion at $180,000 per unit. Within the last seven months, it sold at approximately $90,000 per unit, recalls Bates.

Market bright spots—and uncertainties

“Boston always leads New England out of the recession, and Rhode Island is usually the last one to come out of it,” says Bates. “I think Connecticut will follow Boston, but just to a slightly lesser degree going forward and a little later.”

Cary predicts that the urban downtown Boston market will remain strong going forward due to the demand from the universities. “It’s got a solid college base right there—and young professionals—so the future is very bright for the Boston multifamily market. Obviously, if you add in some job growth it only gets better.”

In addition, he notes, there’s not enough in the pipeline that would create any excess supply, but the strong demand from local and regional investors makes downtown Boston and the Route 128 suburbs good places to be overall. The 495 area is more uncertain, since it seems to be tied to job growth even more than other areas, particularly since there are so many vacant offices, Cary reports.

Similarly, notes Bates, downtown Providence is expected to fare better than the suburbs. Brown University, for example, is expanding its medical school into one of the seven historic Jewelry District properties it already owns.

A win for Massachusetts developers

In the November mid-term elections, 58 percent of Massachusetts residents rejected Question 2, voting to preserve Chapter 40B, which has helped to create more than 20,000 units of housing in the state since 2000.

Chapter 40B allows an organization that is building government-subsidized housing with low- or moderate-income units to apply for a single comprehensive permit from a city’s zoning board of appeals, rather than separate permits from each local agency. The law was intended to create affordable housing in localities where less than 10 percent of the existing housing was considered affordable.

“The primary focus of the law is to create market-rate housing along with affordable housing in mixed development,” points out Richard Robinson, president of Apartment Realty Advisors (ARA)-New England and investment partner at Burlington, Mass.-based Nordblum Company. The ballot question, he notes, sought to repeal the ability to use that provision and would therefore have limited the amount of affordable housing—as well as market-rate housing—in development.

“It would [have] affect[ed] the pipeline of apartment development pretty substantially,” Robinson asserts, “and that’s part of the reason Massachusetts has been a good area for people to invest in the past and the future, why companies have come here.”

Prior to the vote, adds Robinson, the development pipeline in Massachusetts was in limbo because of the potential change of the bylaw.

“New England, particularly eastern New England, tends to be very stable,” notes Donahue. “We don’t have large upticks in the supply of units, and even with job volatility we don’t have a tremendous falloff in demand for rental units, so when vacancy hit 6 percent a year ago, that was the highest it was in 50 years—that comes back to difficulty of building, the lack of physical sites available and lack of permitable land.”