New Supply Erodes Class A Apartment Rent Premium
Class A units have always been priced at a premium to Class B, and over time, that premium has slowly grown. Recently, however, a divergence from the norm has occurred.
According to historical data from MPF Research’s top 50 markets, Class A units have commanded an average rent premium of 37.2% (or $340) over Class B apartments going back to 2001. That delta peaked in 4th quarter 2014 at 49.4%, when the average Class A unit was priced nearly $500 more than the average Class B apartment. Since then, the delta between Class A and B rents has started to decline. Annual rent growth among Class B units has outpaced Class A apartments for the past seven consecutive quarters. And that trend is likely to continue into 2017 when new supply levels are expected to peak.
Apartment development has been hot. But demand, for the most part, has managed to keep pace. The most recent substantial inventory expansion began in 2013. During that time annual supply crossed the 100,000-unit threshold and briefly outstripped demand. In 2013, the ratio of new supply to demand went above 1.0 for the first time since the Global Financial Crisis (GFC) – meaning that there were more new units being delivered than renters were able to absorb. Fast forward to 2nd quarter 2016, and the supply/demand ratio was seen hovering around 1.0. However, new supply is set to explode during the next five quarters as nearly 365,000 new units are scheduled for delivery. That will expand the existing unit base of the nation’s top 50 markets by roughly 2.8% in 3rd quarter 2017, an unprecedented expansion rate. For perspective, that is roughly equivalent to three normal years of new apartment deliveries combined, and nearly three times the long-term average inventory expansion rate.
Going forward, MPF Research expects a supply-induced slowdown in Class A rent growth in the short term as new apartment deliveries continue to mount. Currently, the average Class A-to-B rent premium is about $520. But the impending surge of new multifamily product coming online, combined with continued strength in Class B units, will likely continue to narrow that premium.