Low vacancy expected to drive up Los Angeles apartment rents despite significant amounts of new multifamily construction in 2004 Chris Tolles Want to make piles of cash? Sell your multifamily property in Los Angeles, where a combination of market fundamentals, high single-family home prices and low interest rates have made it one of the most capital-rich commercial real estate environments in the country. Experts' projections for the market this year indicate that the gravy train will continue. Very active multifamily broker Laurie Lustig-Bower, managing director of CB Richard Ellis, said all signs point to sell. "All the stars are lining up," Lustig-Bower said. "It's the perfect time for a seller." Predictions calling for another successful year in the Los Angeles multifamily market are based on strong fundamentals. The Marcus & Millichap National Apartment Report ranks the Los Angeles market the third strongest in the nation, behind Orange County and San Diego. Los Angeles' infinitesimal vacancy garnered special mention in the report. "Los Angeles is forecast to boast the lowest vacancy rate in our coverage universe in 2004," the report stated. Marcus & Millichap lists the vacancy rate for the end of 2003 at 3.3 percent. The real estate services firm projects Los Angeles' vacancy for the end of this year to drop to 3 percent. The low vacancy can be attributed to the red-hot single-family market that continues to see prices rise out of reach of even the middle class. According to Fidelity National Financial Inc., the median single-family home price in the Los Angeles-Long Beach area for the third quarter of 2003 stood at $361,540, a 64.3 percent jump from three years ago. Looking ahead through 2004, the region will be marked by extensive development plans for higher-end product, especially in the downtown Los Angeles area, and a concurrent lack of affordable product throughout Los Angeles. The expectation is that this year will see similar, though slightly reduced, levels of multifamily construction compared with 2003. Experts agree that more multifamily units are required to meet the demand. According to the Marcus & Millichap report, 2003 brought 5,800 units to Los Angeles County. "While activity is expected to decline slightly in 2004 to 5,300 units," the report states, "developers are forecasted to deliver 5,000 to 6,000 new units annually until at least 2006." The city desperately needs these new units and more, according to Paul Daneshrad, chief executive officer of StarPoint Properties, which specializes in acquiring and repositioning multifamily assets. "The supply side of our market seems to be imbalanced," Daneshrad said. "Existing and short-term demand are not being met." Sellers' Market With more multifamily projects in the works than any other commercial-property type in the market, Los Angeles multifamily continues to attract large amounts of investment capital. Still many ask the question, "Is it time to buy?" Lustig-Bower said marketplace fundamentals suggest that 2004 will remain a sellers' market. "I would absolutely be thinking about selling any buildings that I own right now and looking toward other markets that you can transfer the money into," she said. The cyclical nature of real estate makes buying in the Los Angeles multifamily market especially dangerous, and investors aggressively pursuing deals easily make mistakes. "It's easy to forget what happened in the late '80s and early '90s," she said. "As a buyer, one really has to understand the property and the market to make sure they're making a smart purchase," she said. The possibility of an interest rate hike later this year could put stress on those who bought at the top of the market. She is recommending to some of her less-sophisticated clients that they put on long-term, fixed-rate financing in the low capitalization rate environment. "More sophisticated buyers are financing with variable rates," she continued. "They have to be business savvy to add value to the property in a relatively quick time frame and then try to sell or refinance the property at a later date when interest rates hopefully aren't too much higher. "You need to know what you're doing." More Expensive Than Office Area developers are working to meet the housing demand, although they might be missing the target price range of those most in need of housing. After two years of falling to flat rents in Los Angeles' luxury submarkets as would-be renters bought homes, a slew of higher-end product is in development throughout the Los Angeles market. In North Hollywood, JSM Construction broke ground Jan. 29 for NoHo Tower, which will be the tallest residential building in the San Fernando Valley at 15 stories, according to the company's officials. The $43 million development will include 191 units and 17,000 square feet of ground-floor retail. The mixed-use development, designed by DE Architects, will charge rents ranging from $1,500 per month to $3,500 per month. Farther south, the $150 million Esprit Marina del Rey, developed by Esprit One, will consist of 437 apartments, each with a water view, at the terminus of Marquesas Way. Construction was set to begin in January with completion expected in July 2006. According to Buchanan Street Partners, an early projection for the property quotes rent at $2.85 per square foot per month - that's higher than what CB Richard Ellis reported as the average office rent in Los Angeles County: $2.10 per square foot. Buchanan Street Partners funded a $20 million mezzanine loan for the project. The loan is the largest mezzanine loan in West Coast-based real estate investment bank's history. Meanwhile, Nadel Architects designed the California on Wilshire, a 23-story luxury high-rise condominium developed by the Fifield Cos. and California Landmark. Completion is scheduled for mid-2005. Plans call for 80 residential units ranging from 3,300 square feet to 8,000 square feet. Prices will range from $1.2 million to $9 million, according to the developers. The downtown Los Angeles area, not to be outdone, is also seeing extensive development of multifamily adaptive reuse projects targeting the downtown office worker. As of December, 1,183 units had been constructed, 1,819 units were under construction and 3,438 were in various pre-construction stages of the development process under the Los Angeles's adaptive-reuse ordinance, according to Hamid Behdad, director of adaptive reuse for the city of Los Angeles. Mayor James K. Hahn recently expanded the ordinance citywide from its original coverage zone of downtown Los Angeles. Experts have conflicting views as to what the future holds for this market. Lustig-Bower said downtown multifamily development would continue as more units come online. "I think we'll see a lot more interest in downtown," she said. "It's beginning to prove itself." Daneshrad, however, said developers who came late to the market face a disappointing future. "A lot of the downtown market is going to start to soften," Daneshrad said. "The people who are starting to build now are going to be very, very disappointed. That market can't absorb the amount of construction at the rental rates people are underwriting to." But, undeterred, developers continue to introduce more product to the area. MacFarlane Partners has formed a joint venture with Related Cos. to build a $32 million, 128-apartment project in Little Tokyo. Construction will begin this month with completion slated for August 2005, according to information provided by MacFarlane Partners. Greystone Multi-Family Builders leads the redevelopment effort for the former University Club Building at Sixth and Hope streets. The company proposes 95 adaptive-reuse lofts with ground-floor retail. Meeting Housing Demand A project that stands out among the latest wave of new construction is the one Vista Affordable Housing Corp. is developing - converting 901 S. Broadway into 82 adaptive-reuse loft apartments. Of the units being built in the former Blackstone's Department Store building, 20 percent will be affordable housing - a segment often overlooked and drastically undersupplied in the Los Angeles area. Raphael Bostic, director of USC's Casden Real Estate Economic Forecast, said one of the biggest problems concerning affordable housing is the lack of product for large families, especially those who require three- and four-bedroom units. "The demographics are showing that we're seeing a growth in large families," Bostic said. "Most developers are not willing to build units that size." Los Angeles' high land and entitlement costs make the less-profitable layouts less attractive to developers trying to make a project pencil out. According to RealFacts' data, as of December, only 6,981 of 115,634, or 5.9 percent, of Los Angeles' apartments were three-bedroom, two-bathroom units or three-bedroom townhouses. Daneshrad said the discrepancy is in affordable housing and the lack of lower-cost product especially hurts the Hispanic immigrant population. "Those immigrants, 90 percent-plus, are going to be first-time renters," he said. "They need a lot of affordable units, and we're not building any C- and D-Class properties." Moreover, experts expect rental rates across the board to increase, according to the Marcus & Millichap Apartment Research Report. "Rents increases are expected to continue for the market as a whole as vacancies stay within a healthy range," the report states. The report lists the average asking rent for 2003 in the Los Angeles-Long Beach area at $1,140 per month, a 4.2 percent increase from 2002. The improving economic climate in 2004 could raise rent levels 4 percent to $1,195 per month, according to the report. The report forecasts rent growth in each major submarket. Downtown asking rents will increase 4.5 percent to $1,203, according to the report. Because of positive absorption rates, rents in the Westside cities will grow 4 percent in 2004. The San Fernando Valley, Glendale and Burbank areas will see rents rise by 5 percent in 2004. In response to declining vacancies, rent levels will increase 5 percent in the South Bay-Long Beach region, the report says. Daneshrad said much of the rental growth will come in the Class B and Class C markets in such places as the San Fernando Valley. Class A apartments, he said, will experience some growth, likely in the flat to 2 percent range because of high rental rates. "We will see relatively healthy rental growth," Daneshrad said. Affordability isn't the only housing characteristic that Angelenos are looking for in new developments. With Los Angeles' population growing and traffic in gridlock, some developers are moving living spaces closer to jobs. Pacific Properties is one company banking on the live/work style. Mark Cassidy, president of Pacific Properties, said bringing homes closer to business areas represents a new style of multifamily. Pacific Properties is in the early stages of developing a series of apartment complexes within the Warner Center office campus in the west San Fernando Valley. "It's so obvious that that's what needs to happen," Cassidy said. "People don't like to drive ... people want to live close to work." Though the development has yet to be officially named, Randall Reel, senior vice president of Pacific Properties, said he calls the property Pacific Courts. Details of the project have yet to be determined, Reel said. If completed as currently envisioned, the project will feature 12 courtyards. The units will have varying design styles, including the "soft-loft" style, which uses higher ceilings than traditional units to create more open space, Reel said. The development is going through the approval process. Barring obstacles, development should begin by the fourth quarter, Reel said. The story of the development, Reel said, is that Warner Center has 40,000 jobs and a lot of traffic. "We're bringing the housing closer to the jobs," he said.
February 9, 2004