Pent-up Demand Indicates Growth Ahead for Multifamily Sector

November 23, 2021

After a concerning few quarters when apartment deliveries far exceeded demand, the multifamily sector is now on track with an absorption rate that is double the norm, according to Kimberly Byrum, managing principal, multifamily at Zonda, a real estate analytics firm, at the Third Quarter Multifamily Market Update. Byrum says that she is now seeing the best apartment fundamentals in her 30-year career.

The absorption rate for apartments dropped in the second quarter of 2020 and gradually began increasing through the third and fourth quarters of 2020 and the first quarter of 2021. Typically, about 300,000 units are absorbed annually but in the third quarter of 2021 the absorption rate climbed to more than 600,000 units. Byrum’s statistics come from MPF Real Page.

“That’s essentially an extra 300,000 people, which we think is about one-third explained by seasonality because the third quarter is typically when we see more activity,” says Byrum. “But the rest appears to be pent-up demand from the pandemic.”

Rent growth started rising during the first quarter of 2021 and then shot up significantly at the beginning of July. Occupancy rates climbed to more than 97% during the third quarter of 2021 after dipping close to 95% during the second quarter of 2020.

Given the anticipated 272,783 apartment deliveries in 2021, 295,677 in 2022 and 302,513 in 2023, Byrum expects occupancy rates to remain above 97% for the next several years since those numbers align with typical demand. She says it would take delivery of about 500,000 units to bring occupancy rates down.

Migration trend may be stalled

Whether a massive migration is over or stalled remains to be seen, but Byrum found that renewal rates for apartment leases have returned to the pandemic peak level of 57%. Approximately 20% of renters move to buy a home, which Byrum says has stayed consistent for years. Lease renewals dipped to 53% during the third quarter of 2020, to 51% during the fourth quarter of 2020 and have gradually climbed during each subsequent quarter. Byrum says the benchmark for a normal rental market is a 52% lease renewal rate.

Renewal rates far exceeded that benchmark in markets that benefited from the great migration, such as Atlanta where the renewal rate climbed to 62%, Las Vegas (60%), Tampa (58%), Dallas (58%) and Houston (56%), among other locations.

Sun Belt markets back in favor

Among the markets with the highest improvement in occupancy rates between the fourth quarter of 2019 and the third quarter of 2021 are Houston, Dallas, Nashville, Austin, San Diego, Charlotte, Denver, Portland, Tampa, Phoenix, Atlanta, Raleigh, Seattle, San Francisco and Orlando.

Absorption rates are strong in both urban and suburban submarkets, Byrum says. The best performing urban submarkets from the third quarter 2020 to the third quarter 2021 based on absorption rates, occupancy rates and rent growth include intown Dallas, downtown Denver, central Orlando, central Tampa, downtown Seattle, uptown and south end Charlotte and downtown Austin.

The best performing suburban markets during that time include Frisco in Dallas, Southwest Charlotte, Katy in Houston, Avondale/Goodyear/Glendale in Phoenix, Southwest Las Vegas, Round Rock/Georgetown in Austin, Northeast Denver, South Salt Lake/Murray in Salt Lake City and Brandon/Southeast Hillsborough County in Tampa.

Byrum says some multifamily REITs that switched their focus to coastal markets are returning to Sun Belt markets because of accelerated migration trends, lower regulatory risks and lower taxes.

Floor plan mix analysis

Byrum’s research also compared the mix of studio, one, two, and three-bedroom units to determine which are most popular. She found that occupancy rates are high for all apartment sizes. Early in the pandemic studios were less popular, but now studio occupancy rates are back to normal.

“Studios definitely offer pricing power because in the suburbs the average price per square foot is $2.25 compared to $1.78 for a one-bedroom,” says Byrum. “In urban markets, the spread is narrower, from $2.51 per square foot for a studio to $2.25 for a one-bedroom. There’s an opportunity to build studios, especially in the suburbs.”

One and two-bedroom units are sought-after in both urban and suburban markets, Byrum says, but three-bedroom units are less desirable in multifamily buildings in both locations.

Two trends to watch

Byrum says more developers are focused on “middle market” apartments that rent for 15% to 20% below market rate apartments. While some do ground-up development, others are redeveloping buildings by spending about $6,500 to $7,500 per unit for a kitchen and bath refresh and getting 9% to 10% rent growth. Alternatively, they cut down on operations costs with a new build with fewer amenities. Generally, Byrum says, developers start with the estimated rent per unit and then work out the cost to build within that budget.

Single-family rentals, which Byrum refers to as “horizontal apartments” are competing with apartments in more markets. Developers are increasingly building larger communities with 10 to 12 homes per acre and 250 to 320 homes. Generally, these are one to three-bedroom units with a small yard and surface parking that are popular with empty nesters and millennials.

Byrum’s research, which focused on the Austin area, found that single-family rentals have approximately a 12% premium over apartments based on a price-per-square-foot measure, although the absorption rate is a bit slower at 13 move-ins per month compared to 16 move-ins per month for apartments. Generally, rent growth is stronger on two and three-bedroom single-family rentals than on smaller units.

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