The surge in apartment rents since the downturn has sparked development across the country. But tenants pinched by rising rents shouldn’t expect relief soon from the new apartments for a simple reason: Demand is likely to outpace supply for some time.
While apartment construction has picked up from its lethargic pace in 2009 and 2010, today’s level is still below historical norms. There were 242,000 apartment units—the vast majority of which were rentals, not condominiums—under construction in November, below the roughly 340,000-a-month average during the 2000s, according to the Census Bureau.
Building permits have recently risen to normal levels, with 24,200 units authorized in November. But while the pool of renters continues to grow, most apartments in the pipeline today won’t be available for occupancy until 2014 or 2015.
This supply-and-demand imbalance means apartment buildings are hot properties for commercial landlords. Although many analysts expect the rate of rent growth to slow, apartments are still likely to fare better than other classes of commercial property, like office buildings and stores, which are struggling with lackluster demand.
At the same time, the strength of the rental market underscores some limitations of the recovery among the for-sale housing market. Rising values are encouraging some potential buyers but stringent lending terms and slow income growth are keeping many others out of the mortgage market.
Economists expect the homeownership rate to stay around its current 65.5% level for at least the next few years, if not the long term. That is well below the 69.2% peak of the housing bubble.
“The housing recovery is not affecting apartments at the ground level,” said Alexander Goldfarb, a real-estate analyst at Sandler O’Neill & Partners. “Rents are going to keep going up.”
The apartment market started to rebound from the recession in 2010. Occupancies and rents have increased thanks to demand from people who lost their homes in foreclosures or people unable to buy homes because of weak credit or lost jobs.
Rents grew 3.8% in 2012, up from 2.4% in 2011 and 2.3% in 2010, according to real-estate research service Reis Inc. REIS +1.01%The firm projects annual increases of 4% to 4.5% through 2016.
To be sure, rents can’t sustain their current growth rate forever, especially in a weak economy. Already, there are signs of resistance in cities like New York, where some tenants can’t afford to renew leases at ever-climbing rents. That is one reason why publicly traded apartment companies trailed the market last year after a strong performance earlier.
In addition, the housing market’s gradual recovery could spur more renters to become buyers, particularly in exurbs and some cities in the Southwest with affordable homes.
But demographics favor the rental market. After sliding for years, the number of new households established is up. The prime renter age group, 20 to 34 years old, is projected to grow by 552,000 to 65.7 million over the next two years.
Also, many new apartments have yet to hit the market. That is because banks and other lenders through much of 2011 and 2012 initially were wary of diving into the risky business of funding apartment construction just a few years after the real-estate bust.
“Eighteen months ago, lots and lots of people knew multifamily was the asset class to be in, but there were still plenty of banks that were skittish,” said Willy Walker, chief executive of the apartment-focused lender Walker & Dunlop Inc. WD +2.63%
Development hasn’t been uniform across the country. Many in the sector are watching areas such as Washington, D.C., and Seattle, which both saw an early a wave of new development that could flood those markets. This year, Reis said, Washington will see 2,977 units completed, the most in decades. Seattle is slated to have 5,166 new units, up from the roughly 2,000 a year for much of the past decade. Many expect the new supply will ease rent pressure there.
“I do think you’ll start to see year-over-year rent growth start to subside,” said Scott Matthews, an executive who oversees development at Vulcan Inc., a Seattle company owned by Microsoft co-founder Paul Allen. Vulcan started two apartment buildings with a total of 460 units in the city last year.
Elsewhere in the country, it is a different story. Although builders are rushing to break ground, demand continues to outstrip supply, positioning 2013 to resemble 2012.
Click here to view the original article written by Eliot Brown for The Wall Street Journal. A version of this article appeared January 14, 2013, on page A2 in the U.S. edition of The Wall Street Journal, with the headline: Moving On Up: Stage Set for Rents to Go Higher.