In pockets across the country, the cap rates behind apartment lending are inching up. But it's not for the reasons that keep investors up at night. For institutional buyers and lenders, the top-end of the market has not shaken its luster, even where rent growth has slowed. Nor have price pressures ebbed significantly. Instead, the metrics are drifting higher because the range of assets trading in the market has broadened. For a growing share of non-institutional buyers, pricing at the median is too steep. At the lower bound of the investable universe, rents on higher-yielding properties are now rising at faster clip. Yield-hungry investors with ample access to debt are responding in kind — just not at the current pace of fundamentals.

To the great relief of the institutional ranks' recent buyers (and the equal dismay of many credit risk officers), cap rates and debt yields on strongly contested, high-value assets declined in the first quarter (see our Q1'13 summary). For properties valued above $25 million – either by sale price or appraisal at refinancing – the national average cap rate fell to 5.6 percent. Debt yields for this cohort slipped to a record-low of 8.3 percent. Reflecting a more crowded marketplace of lenders, investors were able to secure more than $12 in financing for every dollar of NOI.

Cut another way, cap rates for class A properties trended just off their late-2012 lows during the first quarter. Capital inflows sustained price trends, even as rent growth showed signs of moderating. Axiometrics reported last week that annual effective rent growth for class A properties slowed to 2.8 percent nationally in April, even though occupancy rates were slightly higher. In contrast, class B and C properties registered increases in effective rents of 3.2 percent and 4.0 percent, respectively. At least for now, values on these less contested assets are lagging an acceleration in fundamentals that may prove short-lived.

A slower rate of appreciation is a welcome sign in an otherwise euphoric marketplace. In too many cases, apartment fundamentals have taken a back seat to low-cost capital as the main driver of value (see our Q1'13 apartment lending bubble summary). That should worry lenders more than it does. When the yield curve finally betrays investors, holding value will depend on whether cash flow outpaces adjustments in rates and spreads. As rent growth tapers to a more sustainable pace, the prospects for managing the rate reversal present an increasing challenge.