With its exceedingly strong fundamentals, the apartment market continues to strengthen, with no end in sight—except a possible slowdown in the pace of tightening as a result of trends in the single-family sector (see Supply and Demand). Now in the low single digits, vacancy has returned to the low rates common to this market prior to the recession. And acceleration in rent growth has redeemed all recession-related losses. Construction, never an easy prospect in this market, has increased, but is confined almost exclusively to projects from The Irvine Company in the city of Irvine. While numerous projects wait in the wings, including some thousands of units intended for the Platinum Triangle area of Anaheim, construction schedules remain uncertain. Development, accordingly, likely will remain prudent. Indeed, a downturn in the completion total is expected for 2013 despite the market’s considerable strengths otherwise. Strong investment activity is indicated.
A fundamental characteristic of the Orange County residential markets has been the chronic shortage of affordable housing. Even with the large value declines in the single-family sector precipitated by the recession and the general collapse of the ownership markets, the gap between renting and ownership costs has remained too wide for many to cross. Lending additional support to apartment occupancy has been the difficulty attending development, an effect of high land and construction costs, land availability issues, and community resistance to high-density housing. Market-rate apartment vacancy rates, accordingly, have been perennially low. Even in the depths of the recent difficulties, vacancy rose no higher than the 6.4% rate first reached in third quarter 2009 (the rate lingered at that level through second quarter 2010, after which the current downward trend commenced).
The explosive demand that emerged in 2010 initiated the new trend. By the end of the second quarter of 2012 the rate had fallen to 3.7%, same as the quarter before, down 100 basis points year-over-year and a return to the low single-digit rates common prior to the recession. A year-end rate of 3.5% currently is projected. With demand spreading through both the market’s upper- and lower-tiers (see the Supply and Demand section following) both are enjoying persuasive downward movement in their vacancy rates. Respective second quarter Class A and B/C rates were 4.3% and 3.3%, down 80 and 110 basis points year-over-year.
SUPPLY AND DEMAND
As in life and the universe, nothing is permanent in real estate—as the latest recession so dramatically demonstrated. Among the major factors contributing to the robust recovery of the local apartment market, the weakness in the single-family market that drove hefty elements of demand to the rental sector may also be temporary; rental demand derived from that source may now be diminishing to some extent. As noted in the opening section of this report, a “home buying spree” has spread throughout the county. Thus, some numbers of residents that had opted to rent rather than buy, oppressed by concerns of one type or another, may now take the ownership option, thus depriving the apartment sector of a portion of the demand that had helped fuel the recovery.
That said, Orange County has long suffered from a shortage of affordable housing; demand for apartments, supported by that undersupply as well as the improvement on the economic front, is not about to disappear. Indeed, demand arising from job creation will likely increase along with rising rates of job growth. “Broad-based job gains across most sectors have ignited household formation, improving vacancy rates in both high-end and lower-tier apartments, and across nearly every submarket,” observes Marcus & Millichap in its third quarter 2012 report on the county market. Growth in lower-paying segments such as tourism (a large sector here) and expansion by retailers including Walmart are expected to animate the lower-tier apartment sector. According to Moody’s Economy.com, household growth will run at 1.3% this year representing 13,400 households, a gain that would stand as the largest single-year increase since 1998.
Reis put first half 2012 market-rate apartment net absorption at 1,385 units alongside only 725 of new supply, all in a single project in Irvine (see Submarkets). Indeed, both the net absorption and completion totals are expected to increase during the second half of the year. Reis’ August report on individual construction projects calls for the completion of 2,706 market rate units in seven projects all told in 2012, 2,581 of which, in six, are located in Irvine. Indeed, Irvine has been at the forefront of the market’s emergence from the downturn. An enormous volume of units, however, wait in the wings in planned and proposed projects in the Platinum Triangle redevelopment zone in Anaheim. Next year, meanwhile, is expected to see a diminution of both new supply and net absorption totals. Demand, all the same, should maintain a moderate margin over new completions in 2013.
Rent growth has been accelerating markedly; by the end of the latest quarter all of the losses sustained with the sharp decline in prices in 2009 had been redeemed. At $1,574 and $1,531 per month, respective second quarter 2012 asking and effective averages were up 1.0% and 1.2% from the quarter before and were up 1.5% and 2.1% since year-end—in the wake of gains at 2.2% and 2.6% in 2011 all told. Growth rates of 3.8% and 4.7% for respective asking and effective averages are projected for the year as a whole. With little on the horizon that would impede landlords, still higher annual rate increases could follow.
Second quarter Class A and B/C asking averages were $1,825 and $1,422, respectively, up 1.1% and 0.9% from the quarter before. “As job growth creates demand for rentals, and vacancy falls across the county,” notes Marcus & Millichap, “owners will gain leverage to further increase rents, enticing builders to accelerate delivery schedules in the coming months.” According to a late May report in The Orange County Register, the largest rent increases (submarket differences notwithstanding) have been seen in larger apartments.