Apartment Market Holding Steady

Rents and property values climbed at a slower pace in Los Angeles and Orange counties during the first three quarters of this year, but apartments remain one of the most popular real estate investments and probably will hold their appeal despite the declining economy.

Those are among the conclusions in a preliminary analysis of the third-quarter apartment market from real estate investment brokerage Marcus & Millichap, which also reported that vacancy rates flattened in both counties, a sign of a cooling market.

The apartment market is holding steady despite the economic downturn and uncertainty caused by the Sept. 11 terrorist attacks, said Marcus & Millichap President Harvey Green, because the fundamentals driving the market have not changed.

Apartments are in short supply in both counties, Green said, although demand has remained strong and few new units have been built.

The preliminary survey shows that rents rose by 5.5% on average in Los Angeles County and 7.1% in Orange County for the first three quarters of this year. At these rates, both counties probably will finish 2001 with lower annual rent increases than last year, when rents rose 11.4% for the year in Los Angeles County and 10.2% in Orange County.

Since the selling prices of apartment buildings are based primarily on how much rent the complexes generate, the slowing rate of rent increases means that apartment values are rising more moderately this year.

Vacancy remained flat in Los Angeles County at just under 5%, while in Orange County the rate increased slightly to just over 3%.

“Vacancy rates reflect a cooling off since this is the first time since 1998 that reported vacancies did not go down,” said Hessam Nadji, a Marcus & Millichap managing director. Nadji sees “more cooling off because of the job market softening in the short term, but the long-term picture is still quite strong, given the lack of supply [of apartments] and prospects for continued job growth, albeit at a much slower rate for a while.”

The company’s statistics reflect trends reported by others who broker apartment deals.

Rents and property values this year have been growing at a “sustainable” rate, said James Joseph of Century 21 Grisham-Joseph in Whittier.

“You can’t sustain the big increases in prices we were having the past couple of years,” said Joseph, who described the markets of the previous two years as “giddy” and “super-heated.”

Joseph said he has 12 apartment deals in escrow, and expects to close about 30 deals this year for an increase of 40% over last year. None of his buyers or sellers has backed out of a deal since the attacks on the World Trade Center and Pentagon, he said.

“Apartments compete daily with the stock market, money market funds and other investments,” Joseph said. “Right now, apartments are looking very attractive to investors, even though buyers are settling for lower returns than they did a year or two ago.”

Buyers are accepting annual returns of about 6% on their investments in apartments, said broker Dean Zander of Hendricks & Partners. That compares with returns of 8% to 12% in 1999 and 2000, he said, but today’s lower returns are “markedly better than many investors have experienced in a risky and volatile Nasdaq.”

The number of apartment transactions in L.A. County totaled 1,065 for the first three quarters of 2001, compared with 1,155 for the first nine months of last year, according to Marcus & Millichap. In Orange County, the number of sales totaled 124 for the first three quarters, versus 185 in last year’s first three quarters.

However, prices have increased to $78.35 a square foot this year from $78.05 last year, and Zander said buyers are confident they’ll be able to increase their returns by raising rents about 7% a year.

Even though many sellers want to hold on to their properties for such steady returns, Joseph said, there are still properties on the market because there are many reasons to sell.

“I think it’s time I relaxed a bit and didn’t have to worry about those phone calls from my building manager,” said John Jones, 72, who recently sold a 12-unit complex in Whittier that he had owned since 1976.

Jones said he plans to use the proceeds to pay off some debts, and to invest in other types of real estate that require less time and attention.

The pace of apartment sales usually increases in the fourth quarter as buyers and sellers try to close deals for tax purposes. If that holds true this year, the brokers say, Southern California’s apartment market will finish 2001 down from last year but still will post respectable figures.

“I think in the fourth quarter rents will be flat,” said Green of Marcus & Millichap, “but I don’t think you’ll see rents going down in either Los Angeles County or Orange County, and I don’t think you’ll see significant vacancy changes in either county, at least not in the next couple of quarters.”

Green said the region has a long way to go before rents and apartment property values would drop, as they did in the recession of the early 1990s.

“It took four consecutive years of negative job growth the last time around before it caused downward pressure on prices, and I don’t think we’re going to see that this time,” he said. “I think we’ll see economic recovery before we will see that kind of job loss.”

Green expects the apartment market also will get a boost from capital coming out of the stock market and into real estate, including money from foreign investors.

“We’re already seeing some offshore capital looking into real estate here,” he said. “In times of uncertainty, a lot of people from other countries like to get into real estate in the United States.”