Ten-X's Peter Muoio “The overall market is being sustained by significant societal shifts that is driving strong, sustained demand,” says Muoio.

IRVINE, CA—Positive demographic trends are keeping wind in the apartment market’s sails even as fundamentals are becoming spotty, Ten-X Commercial said Thursday. Among the areas in which fundamentals are uneven is the supply pipeline, a contributing factor in most of the top five markets in which Ten-X recommends that investors consider selling their apartment properties.

Ten-X Commercial’s latest US Multifamily Outlook report shows that vacancies nationwide rose 10 basis points during the first quarter to 4.3% after remaining flat over the past year. By the time 2017 is over, 330,000 new apartment units will be added to the inventory, and over time that will have a negative impact on vacancies as the absorption rate lags the influx of new supply. The report projects the national vacancy rate increasing to 5% by 2018 before declining demand pushes it to 6.2% by 2020 during a modeled economic downturn.

Rent growth, too, has faltered, with seasonally adjusted effective rents rising just 0.4% during the first quarter, according to Reis data. Annual growth has tapered to just 3%, in contrast to the greater year-over-year increases seen in 2015 and 2016.

Deal volume in the apartment sector reached a three-year quarterly low of just below $27 billion in Q1, although it had improved to $35.2 billion in Q2—still a 1% Y-O-Y decline, according to Real Capital Analytics. Multifamily cap rates remained flat in Q1 at 5.2% after a rise late last year.

With it all, though, demographic trends continue to prop up the multifamily market, Ten-X says. Household formations remained steady at a healthy pace of around 1.6 million in ‘16. A solid labor market continues to fuel absorption, as debt-ridden millennials increasingly delay marriage and homeownership in favor of renting. Ten-X says that as employment and wages continue to rise among younger adults, the 31% of 18- to- 34-year-olds still living with their parents should be drawn into the market, giving rise to a key demand source that has yet to be fully tapped.

“The current state of the multifamily sector is a perfect example of the time-honored notion that ‘demographics is destiny,’ ” says Peter Muoio, chief economist with Ten-X. “While softening fundamentals indicate that the sector is poised for a slowdown, that shift has yet to arrive in earnest.”

Even as many large metro areas are increasingly exposed to both cyclical risk and massive oversupply, “the overall market is being sustained by significant societal shifts that is driving strong, sustained demand,” Muoio says. “As long as gainfully employed millennials and other Americans continue to choose renting over homeownership, a majority of multifamily investors can be confident that rents will continue to rise.”

That’s especially true for the five metro areas that Ten-X pinpoints as markets where investors should consider buying multifamily properties: Sacramento, CA; Phoenix; Las Vegas; Raleigh-Durham, NC; and Jacksonville, FL. The favorable demographic trends cited by Ten-X are front and center in these regions, where employment stands at record or near-record levels, and a combination of high demand and light supply pipelines are bolstering rent levels.

Conversely, Ten-X lists five markets in which investors might consider selling. Three are those are in the Bay Area: number two San Francisco, number three San Jose and number five Oakland. Topping the list is New York City, with Washington, DC in fourth place. They’re seeing an onslaught of new supply pushing up vacancies, Ten-X says, while rents may already have reached their peaks, leaving them vulnerable to diminished returns for investors.