R. Tom Smith

The Portland metro’s supply/demand balance has shifted in favor of apartment owners, and with this year’s construction pipeline staying extremely light, rents are poised for solid growth through 2011. Re-employed residents steadily entered the rental market during the first half of the year, sending the market’s vacancy rate below 4 percent, a decade low, enabling operators to push up effective rents near pre-recession highs.

Since the start of 2011, operations in or near major employment centers in downtown Portland have posted the most significant increases to occupied stock. Apartment demand accelerated more than 3 percent during that time, and as further job creation enables additional renters to return to the market, the area’s vacancy rate will realign with long-term averages by year end. Employment growth also has translated into resurgent apartment demand in suburban communities, but the pace of rent growth farther from downtown is tiered.

A stronger upswing in rent gains for Class B/C properties remains several months away, but as the market’s lull in new supply magnifies absorption trends, lower-tier property owners will increasingly raise rents toward the close of 2011 as leases roll over.

With Portland’s rental market firmly rooted in recovery, deal flow has gained considerable momentum, particularly within the top tier. Over the past 12 months, transactions involving assets with more than 200 units doubled, pushing up the per-unit price for these properties by 20 percent. As a result, cap rates for larger deals have compressed to below 6 percent.

As the year progresses, some California buyers seeking higher yields than in their native markets will target Portland assets, bolstering Class A trading through year-end 2011. Given this heightened level of competition for top-tier inventory, buyers’ interest will progressively spread to a broader array of investment opportunities in both asset class and location, lifting deal flow across the board.

In general, average cap rates will start in the high-6 percent range for Class B properties in desirable locations and range to the high-7 percent range for lesser complexes or suburban areas.

2011 Annual Apartment Forecast

	Employment: Portland payrolls will expand by 29,000 workers in 2011, a 3 percent gain, outpacing the addition of 4,600 jobs last year. The creation of 5,900 typically higher-paying professional and business services positions bodes well for downtown apartment owners, as a sizable share of these residents are likely to seek housing near work.
	Construction: Developers will complete 96 units in 2011, a mere 0.1 percent rise in existing stock, all of which will come online in the Inner North/Northeast/Southeast submarket. Supply growth in 2011 will remain 92 percent below the five-year annual average. Last year, 660 units were delivered to the metro.
	Vacancy: Slower construction activity and recovering demand will drive down vacancy again this year. During 2011, vacancy will slide 140 basis points to 3.1 percent, after retracting 240 basis points last year.
	Rents: Asking rents will rise 4 percent to $853 per month in 2011, as effective rents inflate 4.8 percent to $781 per month, reducing average concessions offered by three days of free rent. In 2010, apartment operators in the Portland metro raised asking and effective rents by 2.1 percent and 2.8 percent, respectively.

Economy

• In the first half of 2011, local employers added 15,600 jobs, a solid 1.6 percent increase, outpacing the addition of 8,100 positions during the same period one year earlier.
• Employment growth has been led by the trade, transportation and utilities sectors since the start of this year, which grew by 5,500 workers, a turnaround from the loss of 1,200 jobs in the prior two quarters. The only two sectors to shed jobs thus far in 2011 have been leisure and hospitality and other services segments, shrinking by a total of 1,700 spots.
• With the national economy on better footing, several metro employers have announced plans to expand staffing levels to meet growing demand. StairMaster and Sapa Group, for instance, have released plans to hire 100 workers each this year in Vancouver.
• Outlook: Portland employment levels will expand by 29,000 workers in 2011, a 3 percent gain, outpacing the addition of 4,600 jobs last year.

Housing And Demographics

• Single-family permit issuance increased 3 percent year over year in the sector quarter to 3,650 units, though housing starts fell by 7 percent. The number of multifamily permits pulled jumped 29 percent over the past 12 months to 1,230 units, which is still 80 percent below 2006 levels.
• In the second quarter, the median home price was $229,000, a year-over-year decrease of 3.6 percent. The median household income of $57,660 per year is $4,300 higher than the minimum qualifying income for a median-priced home.
• Using conventional financing terms, the monthly mortgage obligation for a median-priced metro home was $240 per month less than the average Class A asking rent as of the second quarter.
• Outlook: The pace of household formation will strengthen in the year ahead as the Portland metro enters a more vigorous recovery, resulting in the projected addition of 20,000 new households by year-end 2011, supporting healthy demand for housing.

Construction

• In the 12 months ending in the second quarter, developers completed 580 rental units, expanding existing inventory a modest 0.6 percent. One year earlier, more than 1,500 units were brought online.
• Thus far in 2011, two developments totaling 70 units were put into service in the Inner North/Northeast/Southeast submarket, increasing area stock by 1 percent.
• As of the second quarter, the market’s construction pipeline remained thin, with fewer than 180 units under construction. The number of planned projects total 2,980 units, but only 350 of those units contained established ground breaking dates.
• Outlook: Developers will complete 96 units in 2011, all of which will come online in the Inner North/Northeast/Southeast submarket. Last year, 660 units were delivered to the metro.

Vacancy

• Solid job growth, combined with slowing completions drove down the vacancy rate 100 basis points through the first half of 2011 to 3.5 percent. Measured year over year, the Portland metro registered a solid 220 basis point improvement, after falling 50 basis points in the preceding 12 months.
• Both Class A and Class B/C properties are benefiting from resurgent employment gains. In the past year, top-tier buildings posted a 230 basis point decrease in vacancy to 3.8 percent, while lower-tier apartments recorded a 220 basis point fall to an extremely tight 3.2 percent in the second quarter.
• As re-employed residents relocated closer to major employment centers, operational improvements in the Northwest/Downtown submarket have outpaced the market as a whole. During the past 12 months, the area registered a 310 basis point vacancy decrease to 7 percent, which is 730 basis points below the cyclical high reached in the third quarter of 2009.
• Outlook: Slower construction activity and recovering demand will drive down vacancy again this year. During 2011, vacancy will slide 140 basis points to 3.1 percent, after retracting 240 basis points last year.

Rents

• Over the 12 months ending in the second quarter, asking rents climbed 3.1 percent to $830 per month, and effective rents rose 3.6 percent to $757 month. During the first two quarters, asking and effective rents increased 1.2 percent and 1.6 percent, respectively.
• Asking rents in the Class A sector advanced 3.4 percent over the past 12 months to $965 per month in the first quarter, while the lower tier posted a 2.5 percent gain in that time to $706 per month.
• As occupied stock climbed and owners resumed raising rents, Portland apartment owners registered revenue growth of 6 percent over the past year, compared with a 0.3 percent decrease one year earlier.
• Outlook: Asking rents will rise 4 percent to $853 per month in 2011, as effective rents inflate 4.8 percent to $781 per month, reducing average concessions offered by three days of free rent.

Sales Trends**

• Transaction velocity increased nearly 13 percent during most recent trailing 12-month period, a considerable improvement when compared with a 31 percent drop in the preceding year.
• An enlarging pool of active investors has driven up the market’s price 10 percent over the past year to $69,700 per unit. The per-unit price for institution grade assets rose 21 percent year over year to $84,700.
• In the past 12 months, average cap rates fell 40 basis points to the mid-to high-6-percent range. Initial yields for institutional-grade properties, however, have averaged closer to the low-6 percent range, with a handful changing hands in the mid-5 percent neighborhood.
• Outlook: With the supply pipeline to stay empty and an influx of buyers reentering the market, the gap between buyers’ and sellers’ expectations that existed in recent years is quickly dissipating. This year, buyers in search of performing, well-maintained assets will be required to stretch for listings.

Capital Markets

By William E. Hughes, Senior Vice President, Marcus & Millichap Capital Corporation

• Apartment mortgage rates should remain favorable through 2011, enhancing property returns and supporting values. While the 10-year Treasury yield likely will remain in the low-to mid-3 percent range over the next few quarters, the relatively wide spread to all-in lending rates provides some cushion against potential upticks.
• Encouraged by sustained improvements in occupancy and rents, nearly all lending sources have increased funding for apartment deals. As a result, mortgage debt has become readily available for performing assets across markets and property classes, supporting a 40 percent increase in multi-family origination volume over the past six months when compared to the previous period.
• The agencies continue to dominate but have lost marketshare as insurance companies, private capital sources and local/regional banks, in particular, compete more aggressively for new business. In the near term, life insurance companies will continue to favor larger, best-of-class assets in primary markets, while local and regional banks focus on lower-quality assets with consistent revenue streams and strong, proven sponsorship.
• Underwriting requirements eased over the past year as strengthening apartment fundamentals and firming property values restored lenders’ confidence in the market. Debt-service coverage requirements slipped to 1.15 to 1.25, while loan-to-values on new loans generally improved to 70 to 75 percent, and in some limited situations, have pushed to as high as 80 percent.

Submarket Overview

• In the second quarter, Class A vacancy in downtown Portand settled at 8.4 percent, down from 21.5 percent recorded late in 2009. Since the start of 2011, the area’s top-tier vacancy rate has fallen 460 basis points, supporting a 2.3 percent year-to-date jump in asking rents.
• Investors will stay keen on assets in the Beaverton/Aloha submarket, which stands to benefit from Intel’s plans to develop facilities in Hillsboro. The project will create thousands of construction jobs this year and hundreds of permanent white-collar positions when completed in 2013.
• Several other major companies, including Nike, Boeing and IBM, also announced plans to increase hiring efforts this year, which will strengthen demand for housing in both Beaverton and Gresham going forward.

Submarket Vacancy Ranking

** Data reflects a full 12-month period, calculated on a trailing 12-month basis by quarter.

The information contained in this report was obtained from sources deemed to be reliable. Every effort was made to obtain accurate and complete information; however, no representation, warranty or guarantee, express or implied, may be made as to the accuracy or reliability of the information contained herein. Note: Metro-level employment growth is calculated using seasonally adjusted quarterly averages. Sales data includes transactions valued at $500,000 and greater unless otherwise noted. Sources: Marcus & Millichap Research Services, Bureau of Labor Statistics, CoStar Group, Inc., Economy.com, National Association of Realtors, Real Capital Analytics, Reis, TWR/Dodge Pipeline, U.S. Census Bureau.