Apartment Rent Growth: Small Buildings Lag Behind Large Properties
It turns out you can rent a two-bedroom in a small apartment property for less than a studio in a large property. Is this a value proposition for multifamily investors?
Millennials Fuel Apartment Demand
Strong demand has pushed apartment rents up at a rapid pace in the post-crisis period across the country. In 2015, rental vacancy rates reached historic lows of below 5% in the largest markets. This occurred even as a record level of new apartment inventory was brought online.
The present tightening of the rental market is being reinforced by higher household formation rates. This is because growing numbers of millennials are becoming first-time renters. Further, the current economic recovery has resulted in a disproportionately large share of jobs being added to the top metro areas. As a result, there is additional demand for housing in these already tight markets. Combined with a limited supply of developable land for new units in downtown cores, rents may continue to rise even as new inventory comes online.
At the same time, rent levels and growth differ significantly between small and large apartment buildings. These differences are mainly due larger buildings’ mainly being located in downtown cores with more amenities.
As seen below, Chandan Economics’ analysis of American Community Survey data shows that the U.S. average monthly unit rent in small buildings was around $860 in 2014. This is only about three-quarters of the average rent in large buildings.
Rent Growth Slower in Small Multifamily
Rent growth in small buildings in the post-crisis period, at an annualized rate of 2.7%, was lower than the 3.4% in large buildings. Lower rent levels and slower growth means that investors could find a value proposition in smaller apartment buildings.
These trends are further amplified when looking at rent levels by unit mix across small and large buildings, as shown below.
In 2014, while a monthly rent of $1,000 could just about secure a studio unit in a large apartment building, one could easily rent a two-bedroom unit in a small building at this price. Further, 2014 renters paid a premium between 20 and 40 percent to live in large apartment buildings. For example, a household seeking a two-bedroom unit paid a premium of as high as 40 percent more rent to live in a large building.
The contrasts between small and large buildings call to attention the balance between location, unit size and the packaging of amenities. In future posts, we’ll examine the distribution of apartments between downtown cores and suburban areas of large metro areas by building size, and the type of amenities included in such buildings.
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