Will Millennials Push the U.S. Apartment Market Higher?

Although vacancy rates appear to be rising, investors still see plenty of demand for a limited supply of multifamily rental housing.


After a period of record-low vacancies and soaring rents, the U.S. apartment market has begun to cool ever so slightly, but landlords remain bullish on multifamily properties.

Investors spent $117 billion on U.S. apartments through the first ten months of 2015, according to New York–based research firm Real Capital Analytics, a sum that dwarfed purchases of all other property types except offices. Apartment deals attracted more capital than hotels and retail properties combined.

Some observers warn that investors’ sunny projections might prove overly optimistic as vacancy rates tick up and rent increases wane. The national apartment vacancy rate rose to 4.3 percent in the third quarter of 2015, up from 4.2 percent in the second, according to Reis, a commercial real estate data firm based in New York.

“We’ve never seen vacancy rates this low for a sustained period of time,” says Ryan Severino, director of research at Reis. “Fundamentals are going to turn.”

Still, Severino predicts a soft landing, rather than a crash. He expects vacancy rates to edge up to 5.5 percent over the next five years, a trend that would crimp investors’ returns without causing major losses.

“I guarantee there’ll be some stupid mistakes, but I like to think we’re all being smarter,” says Scott McClave, senior principal for acquisitions and finance at Bascom Group, a private equity firm in Irvine, California.


Bascom, with $2 billion in its multifamily portfolio, is still on the hunt for deals. The firm has been snapping up apartment complexes in hot markets. In the past few months, it paid $71.6 million for 493 units in Denver and $13.6 million for 72 units in Southern California.

McClave says mortgage lenders and homebuilders overcorrected after the housing bust. Lenders required heftier downpayments and higher credit scores, and new construction ground to a halt. As a result, Millennials — those born from 1981 through 1996 — are finding it difficult to buy houses. First-time buyers have accounted for only 32 percent of purchases in 2015, according to the Chicago-based National Association of Realtors, a 28-year low.

“There’s a shortage of housing right now,” McClave says. “I compare it to 1947 or ’48 when the GIs came home, and we hadn’t built anything since the ’30s.”

In one sign of the multifamily boom, publicly traded real estate investment trusts that own apartments have outperformed the broader REIT market. In 2014 apartment REITs posted a total return of 39.6 percent, compared with 28 percent for all REITs, reports the Washington-based National Association of Real Estate Investment Trusts. In the first ten months of 2015, apartment REITs gained 9.8 percent, outpacing the 1.7 percent return for all REITs.

The Millennials and their attitudes about home buying remain a wild card in the housing market. The U.S. homeownership rate was 63.7 percent in the third quarter, up from the second quarter but well below the record high of 69.2 percent set in 2004.

Many economists say Millennials hold different views about homeownership than their baby boomer parents did and will prove less likely to buy houses. “The secular changes in our economy favor multifamily,” says Jeanette Rice, Dallas-based head of investment research for the Americas at CBRE Group, a commercial real estate brokerage. “A lot of Millennials love the urban areas, and they’re reluctant to move out.”

But others say there’s no reason to believe that young people have rejected homeownership. “That’s a bunch of nonsense,” Severino contends. “Older Millennials already are moving out of central business districts to houses in the suburbs. Homeownership rates have pulled back, certainly, but they’ve pulled back for everybody, not just Millennials.”

For Millennials who prefer to be tenants rather than owners, occupancy costs have soared. The pace of rent increases, however, has slowed as new apartment complexes are completed. Nationally, rents grew at a 4.5 percent annual pace in October, down from 5.3 percent in September and a high of 6.6 percent in July, according to Zillow, an online real estate data firm based in Seattle.

Rents continue to surge in some cities. In San Francisco they jumped 15.2 percent for the 12 months through October, but they were growing as fast as 19 percent in June and July, Zillow reports. Denver; Portland, Oregon; and San Jose, California, have seen 11 percent rent hikes over the past year.

Double-digit rent growth will push some tenants toward ownership, Bascom’s McClave reckons. “You’re going to hit a pain level,” he says. “Tenants are only going to put up with, or flat out can’t afford, so many rent bumps.”

Meanwhile, the construction spree and buying binge continue. Any decline in vacancies and rents should prove mild, says Stephen Farnsworth, managing director at Walker & Dunlop, a commercial real estate lender and mortgage broker headquartered in Bethesda, Maryland. “We have yet to see any overbuilding,” New Orleans–based Farnsworth notes. “The fundamentals still are strong, and if job growth and income growth take off, there’s a lot of runway.”

Amid the building boom, owners of older apartment complexes are upgrading their properties. Farnsworth has seen landlords replacing floors, countertops and appliances, and adding amenities such as dog parks and bocce ball courts.

“To stay competitive, you need to reinvest,” he says.