Do Sky-High Rents & a Hypersupply of Apartments Spell Real Estate Disaster?

Do Sky-High Rents & a Hypersupply of Apartments Spell Real Estate Disaster?

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Allison Leung Read More

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More and more across the U.S., it pays to be an apartment landlord. Recent reports show the national average apartment rent at $1,211/month, representing a 5% year-over-year increase, and rents are spiking dramatically, especially in “hot” cities, such as Denver, Portland, Oakland and San Jose.

While some experts believe that aggressively rising rents spell impending disaster due to an increasing hypersupply of new development, statistics have yet to indicate a backlash against sky-high rates. Rather, the average occupancy rate in the second quarter remained at “full occupancy” levels of 95.2% nationwide.

Says Stephanie McClesky, VP of Axiometrics, “We’ve had a lot of new supply come on the market, and we thought rents would begin to decelerate. But the apartment market has remained strong, which is exciting for us but probably not too exciting for residents.”

Related: How to Profit From a Hot Real Estate Market (Even if it’s a Bubble)

Big Profits for Landlords, Big Expenses for Renters

Big landlording companies across the country continue to enjoy large profits from increased monthly rents, and the trend of massive development doesn’t show signs of slowing down any time soon. About 217,500 new units were added to the U.S. market in 2014, and it’s predicted that 2015 will see some 277,200 more.

Those standing to profit big include some of the country’s largest apartment owners, such as Chicago-based Equity Residential, which reported that funds from operations (FFO) of 79 cents per share marked an increase of 11.2% over the prior year, and AvalonBay Communities of Arlington, VA, which reported FFO of $1.88 per share, a year-over-year hike of 14.6%.

On the other side of the coin, renters are often straining financially to pay each month, sometimes foregoing dentist or doctor’s appointments just to write the rent check. Currently, renters spend an average of 30% of their income on rent each month — up from 25% about a generation ago — with some forking out 50% of their paycheck for rent in high cost cities such as San Francisco, New York and Miami.

Is It Sustainable?

Despite high occupancy rates, many experts suggest that over 30 U.S. markets, including Denver, Austin, Dallas, New York and St. Louis, have already entered into the “hypersupply” phase of the real estate cycle — a slowing phase of the cycle marked by large amounts of construction, a decline in occupancy and decreasing rents. Does that mean we should brace for a recession?

Related: The Real Estate Market: How to Analyze and Predict Cycles

Not necessarily, says Glenn Mueller, a professor University of Denver’s Franklin L. Burns School of Real Estate and Construction Management, who suggests: “If developers can slow the rate of supply, I think the market can go into a hypersupply phase and then return to a growth phase.”

Still, it’s hard to deny that as rents continue to surpass affordability, buying becomes a more and more enticing option. Zillow estimates that the average mortgage payment represents around 15% of income, a far smaller percentage than the average rent payment. In part due to hyper-expensive rents, the annual pace of homes sales in May exceeded 5.3 million on a seasonally adjusted basis, a year-over-year increase of 9.2% and the highest level since May 2009, according to the National Association of Realtors.

Despite a still-recovering job market, widespread student debt, and climbing interest rates, experts still predict continued increases in first-time home buyers entering the market. In a survey conducted across 20 U.S. metro markets, 5.2 million renters responded that they’d like to buy a house within the year, a number that has risen by a million from 2014. And with skyrocketing rents showing few signs of slowing, they might not be able to afford not to buy.

Investors: What kind of rent hikes are you seeing in YOUR area?

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