Texas-Sized Returns

Texas apartment markets experienced a remarkably robust 2011 driven by impressive job growth, limited new supply and continued demographic migration to the business-friendly cities.

Houston led the nation in job growth in 2011, adding over 77,000 jobs according to the Texas Workforce Commission. Powered by continued high oil prices and a shale exploration boom, Houston’s economy was the first to recover all of its jobs from the national recession. Economists are predicting an additional 80,000–100,000 jobs will be added in 2013 and 2014.

As an example of the energy boom impacting Houston’s real estate scene, ExxonMobil recently purchased 385 acres in north Houston for the development of a 3 million square foot corporate campus expected to house 15,000-17,000 employees. As the largest energy company in the world, Exxon’s capital investment on the order of hundreds of millions of dollars speaks volumes about Houston’s moniker as the energy capital of the world.

In the Energy Corridor in west Houston, BP renewed a 725,000 square foot lease and signed a new 245,000 square foot lease to expand and bring employees to Houston from Chicago and San Francisco. BP now employs over 12,000 employees within 2.4 million square feet of space in the Energy Corridor.

The energy boom has been a primary driver of the incredible multifamily absorption across the city. Over 14,000 units were absorbed in 2011, this on the heels of more than 15,000 units of net absorption in 2010. During this same timeframe, only 4,000 and 5,000 units of new supply, respectively, came onto the market, leading to impressive gains in city-wide occupancy and rent growth. Of note, the majority of the positive benefits have been felt in the Class A and B markets, where average occupancy is now 93.5 percent and 91.4 percent, respectively, while rent growth has been 6.3 percent and 2.4 percent over the last 12 months.

On the heels of this impressive economic data, developers have proposed to build over 14,000 units city-wide. Over half of these proposed units are inside Loop 610, where rent growth has been strongest. That said, many of these proposed developments are not yet capitalized and are therefore considered speculative in nature. Assuming a jobs-to-units absorption ratio of five to one, another year of 75,000 jobs created in Houston would yield another year of 15,000 units absorbed. This is far more than the 7,000 units currently under construction and far more than what will be delivered from the proposed construction list laid out for the next 18 to 24 months.

The perfect storm of job growth, population growth and limited supply forebodes positive news for owners and operators of multifamily properties in the Houston area over the coming years.

Dallas/Fort Worth overview

The Dallas/Fort Worth apartment market is clicking on all cylinders. MPF Research Inc. reported 11 straight quarters of positive demand, while 15,240 units were absorbed during 2011. Upper-tier multifamily communities continue to capture the largest percentage of absorption in the metro, but with new construction tapering off and a continuous strong demand, communities built prior to 2000 are beginning to benefit as well. The overall market experienced strong rental rate growth in 2011, with some submarkets pushing 10 percent. Many renters are choosing to renew their existing leases as an alternative to moving, thus not yielding lower rents except in cases where the renter moves to a lesser quality asset. This scenario has also created strong demand for “value-add” opportunities among Class A and B properties, as owners are spending $2,000 to $5,000 on interior enhancements in return for a $50 to $150 monthly rental premium on the upgraded units.

Forecasted numbers show occupancy levels inching upward, which is the result of several factors—the most important being job creation. According to MPF’s Q4 2011 Apartment Report, Dallas occupancy sits at 93.4 percent while Fort Worth resides at 92.5 percent, and projections one year out are at 94.9 percent and 93.8 percent respectively. Same-store rental rates are projected to climb 5 percent, which is huge for any market and further verifies the strength of DFW. MPF expects the entire North Texas region to sit in the nation’s Top 10 for revenue growth in 2012.

Driven by the strong market fundamentals, low cost of debt and abundance of capital, investor activity in DFW is projected to remain robust in the near term. Transaction volume was still below the 2007 watermark, but up significantly over 2010. We expect the trend to continue in 2012 and perhaps even reach a new benchmark. Many investors are choosing seven- or 10-year debt terms, with interest rates currently available in the low 4-percent range with two to five years of interest-only available. The market is also experiencing slight cap-rate compression, with suburban Class A product trading in the 5.5- to 6.25-percent range and 6.75- to 7.25-percent for Class B product.

Austin market overview

Employment growth, in-migration and a dearth of new apartment supply has created an environment of high occupancy and rapidly growing rental rates. Austin added approximately 16,000 jobs, while in-migration was roughly 30,000 people in 2011. During the previous 24 months, new construction deliveries totaled 2,300 units, while absorption was roughly 11,200 units. As a result, the Austin MSA experienced 6.75 percent annual rent growth. Rental rates are at their highest point since the tech employment boom of 2001, when jobs were plentiful, and the Austin MSA experienced 98 percent occupancy with $0.99 psf average rental rates. The ensuing tech bust of 2003 drove occupancy down to 88 percent and rental rates to $0.82 psf. Fast forward to Q4 2011, where occupancy reached 95 percent and rental rates reached a historic high at $1.05 psf. The highest rates are in the new high-rise and mid-rise product located in the Central Business District, achieving average rates of $2.15 psf.

Apartment supply is the most talked about factor when assessing the Austin multifamily market. Austin is famous for a roller-coaster development cycle. The recent boom-to-bust apartment supply cycles were 2000-2003 and 2006-2008. Today, tight apartment fundamentals and historically low construction deliveries are pushing developers to pick up the pace of construction. However, equity providers are moving cautiously and only supporting the best-located, highest-profile projects. As a result, the majority of the current construction activity is focused in the CBD and Central submarkets. Roughly 3,500 construction completions are estimated for 2012, while approximately 4,500 conventional units are under construction today. Another 5,500 units are in the planning stages, with zoning hurdles and equity/debt raises pending. Absorption was roughly 7,700 units in 2010 and slightly over 3,500 units in 2011. With almost 40 percent of the metro’s working age between 18 and 44, (median age of 34 vs. U.S. median age of 37), Austin is a prime market for apartments. Approximately 41 percent of Austin’s residences are renter-occupied, and with tightened standards on single-family mortgage loans, Austin’s population of renters is only scheduled to increase.

Adam Allen is vice president in the Houston office of ARA. Brian Murphy is a senior investment broker in the Dallas office. Pat Jones is a founding principal in ARA’s Austin office.