With the Economy at Bottom, Apartments Are a 'Perfect Storm'

DENVER-The local economy is at the bottom, while the local apartment market is suffering from conditions that led to a “perfect storm.” That’s the word from Hessam Nadji, SVP and managing director of Marcus & Millichap. Nadji, based in San Francisco, recently came to the city to make a presentation.

“Historically, as the US economy goes, so goes Denver,” said Nadji. “Although there have been periods when the Denver economy lost jobs, while the national economy didn’t (as in the mid-1980′s), Denver has followed the national job trend during the most recent economic slump, though job losses in Denver have been especially severe. Fortunately, as the tide rises for the nation, the Denver region should once again see good job growth, which should become visible by mid-2004.”

Still, he noted, job losses have hit the city especially hard. “However, the bottom has been hit, and the consensus among local and regional economists suggests that 2004 should see between 1.5 and 2% job growth,” Nadji said. “Near term, about 25% of Denver metro area companies polled by Manpower expect to add workers during the fourth quarter 2003, up substantially from the third quarter response of only 15%. That’s encouraging news, and the early signs of the local recovery.”

Meanwhile, the apartment market has all of the conditions of a perfect storm, he said—-rising vacancies, overbuilding, a moribund economy and low mortgage rates. “Vacancy spikes as nearly 30,000 units have hit the market since 2000, with another 6,700 are still in the pipeline—-all during a prolonged economic slowdown that has resulted in job losses of approximately 54,000.”

Also, mortgage rates at record lows enticed many renters to buy homes, he noted. “The good news, however, is that construction is moderating, with few new projects breaking ground,” Nadji said. “Further, as the local economy recovers, and more importantly, as employment increases, the currently empty units will be absorbed, helping push vacancy rates down by next year. Look to 2005 or 2006, however, for vacancy rates to drop to below 7 or 8%.”

The perfect storm conditions have put significant downward pressure on rents, he noted. “Face rents have declined by about 3% from peaks, but coupled with concessions ranging between 10% and 20%, real rents have plummeted,” he said.

However, apartment values have held up thanks to historically low interest rates, he noted. “There are clouds on the horizon, however, as lenders (and appraisers) are underwriting apartment properties much more tightly, with typical LTVs at 70-75%, and pro forma vacancies at 10%,” Nadji noted.