Employment and population growth is spurring apartment demand in Phoenix, encouraging developers to ramp up construction. Although Class A rents are above mortgage payments on a median-priced home, many potential homebuyers will be unable to compete against investors that purchase bank-owned houses to operate as rentals. The metro is a target for these well-capitalized buyers, as home prices have dropped nearly 60 percent since the peak, while the local economy is gaining traction.
By the close of this year, more than 80,000 positions will have been recouped in Phoenix, marking three consecutive years of job gains. The rental pool is poised to grow as many lower-priced homes are purchased by cash buyers and residents contend with qualifying hurdles due to short employment histories. As a result, strong apartment demand will enable most operators to boost rents to all-time highs, pushing residents down the quality ladder. Distant headwinds are starting to form, however, as builders recently broke ground on multiple projects that will add thousands of inventory units over the next few years. This, combined with competition from houses employed as rentals, could mean apartment owners may face significant competition as early as 2013.
A sharp rise in leasing activity during the past 12 months has led to a vacancy plunge of 230 basis points, or 6.7 percent, in the first quarter. In the first three months of 2012, vacancy declined 60 basis points. Vacancy at Class A properties fell 150 basis points, year over year, to 5.4 percent in the first quarter. This is the lowest level since the mid-1990s. Robust demand for high-end units in the Chandler/Gilbert submarket pushed down top-tier vacancy in the area by 160 basis points in the past year to a historic low of 4.8 percent. Firm growth in lower-paying employment sectors ignited demand for Class B and C rentals during the past 12 months, while muted construction in the lower tier supported a 280-basis-point decrease in vacancy to 7.9 percent.
As demand remained brisk, operators exerted greater pricing power and hiked asking rents by 1.7 percent, or to $768 per month. Effective rents rose 2.5 percent over the past 12 months to $702 per month, tightening concessions to one month of free rent. Asking rents in the Class A sector climbed 1.8 percent in the past year to a new high of $920 per month in the first quarter. Operators of Class B and C properties, meanwhile, increased asking rents 1.8 percent during the same stretch to $635 per month. As occupancy improved during the most recent 12-month period, revenues also grew 5.1 percent to pre-recession levels. In the previous year, average revenues increased 5.1 percent.
Elevated prices in the Class A sector will encourage investors to consider lower-tier apartments for higher returns. Buyers from California and Canada will target Class B and C properties located near major demand drivers such as universities, employment centers and mass transit hubs. The continued redevelopment of downtown, meanwhile, is attracting buyers attempting to capitalize on the expansion of the Arizona State University and Phoenix Biomedical campuses – areas where the student population is expected to grow 60 percent by 2020. Some investors will acquire older assets in the area and update the properties with modern amenities to capture student demand. Other sought-after areas, including midtown, Tempe and pockets along the Interstate 17 corridor, will garner interest from local syndicates seeking properties priced below $5 million. Buildings with deferred maintenance will receive a cash infusion and be repositioned over the course of 18 months to enhance the rent rolls.
— David Guido, regional manager Marcus & Millichap’s Phoenix office