Question Of The Week
08/15/2007 - 09/04/2007
Has the apartment market turned the corner?
Jamie Fitzpatrick
The Denver metropolitan apartment market is a much-improved market over the past 12 to 24 months both in terms of occupancy rates and rental rate numbers. This is a long-awaited recovery since the downturn that began in late 2001. Fourth quarter 2000 and into first quarter 2001 saw metro vacancy rates stabilized in the range of 4.5 percent with average rents just north of $800 per square foot. Vacancy rates peaked in mid-2003 at more than 13 percent but today are back down to the 7 percent range. Average rents today are close to $850 per sf for the metro area.
Even more telling, however, is what has transpired with rental rate concessions over the past two years. There has been a significant decrease in concessions, which is best expressed by examining the economic vacancies (defined as vacancy plus concessions and discounts as a percentage of gross potential rent) over the same time period. The metro economic vacancy rate for first quarter 2007 was 21.4 percent as compared with 22.3 percent for fourth quarter 2006. By comparison, for the first quarter of 2005, the economic vacancy was 24.3 percent, and for first quarter 2004 it was 25.7 percent.
Additional indicators pointing to an improving market include: a monthly resident turnover rate which for the metro area is now at 3.7 units per month, the lowest it has been since early 2000; a reduction in new construction from a high of 9,123 units in 2002 to 738 units in 2006; and rent losses from discounts and concessions – although still high at 14.3 percent – is now the lowest it has been since the fourth quarter 2003.
On a metro level there is every indication that the market is trending in all areas to a much-improved market over what we have experienced during the five-year period from 2001 through the end of 2005. In addition, there are submarkets in the metro area – such as downtown Denver – that are experiencing above-average improvements in occupancy rates, reduced concessions and significant growth in properties’ net operating income. The downtown market in particular is expected to have significant rental growth over the next few years as demand for a centralized and highly amenitized location grows and limited new supply is delivered.
Are these improvements in the market sustainable or will we see only nominal improvements in rents and concessions over the next several years? While it may be risky to forecast too far into the future, there are clearly a number of factors in place that support a continued positive trend for the metro Denver apartment market. Historically, in Denver, a building boom resulting in an increase in the vacancy rates often follows a higher occupancy rate climate. A construction boom is less likely today as construction cost increases over the past five years have far outpaced rental rate increases. The resulting compression on yields from these higher construction costs will make financing new construction difficult, particularly on nonprime located properties.
Additional upward pressure on rents will come from newly acquired properties that have traded at historically low cap rates. Since it is unlikely that cap rate compression will continue, property value appreciation must come from NOI growth – resulting from occupancy and rental rate growth. Given these factors, as well as the gradual improvement in the overall metro area economy and stability in interest rates, it is realistic to assume that the metro Denver apartment market has turned the corner and that we can expect continued improvements in both occupancy and rents going forward.
Cary W. Bruteig, MAI, CRE
The apartment market has turned several corners, and has a couple more to go. Speaking in terms of metrowide averages, the Denver
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