RERC's Reports on Las Vegas Apartment Sector

"Many respondents to RERC's third quarter 2007 institutional investment survey noted that the apartment sector continue to represent the best commercial investment opportunity during the next year, as demand is expected to remain strong due to the wave of delinquencies and defaults in the subprime residential market. However, some respondents see the apartment sector as less attractive due to the low capitalization rate and the likelihood that slow job growth will hurt demand."

RERC's required going in capitalization rate for Las Vegas apartments is 6.0% as of 3Q2007. The terminal (exit) capitalization rate is 6.8%. The required pre-tax yield rate for apartment properties for third quarter 2007 was 8.5%, a 20 percent increase from second quarter.

Nevada's Unemployment Rate Hits 5.4%

According to the Nevada Department of Employment, Training and Rehabilitation, Nevada’s seasonally adjusted unemployment rate was at 5.4% in November. The unadjusted rate for the Las Vegas area was 5.3%. The national rate remained unchanged at 4.7% in November, while California’s rate stayed at 5.6% in October (both rates seasonally adjusted). SurePayroll reported a 17% increase in small-business paychecks in Nevada during 2007. Nevada was the only state to have double-digit growth. The average salary in the state for workers at companies with 100 or fewer employees increased to $33,395, which is above the national average of $32,609.

Nevada Regains Title - Fastest-Growing State

Nearly 6,300 people moved to Clark County in December, for a total of just under 75,000 in 2007. The top feeder state, per the Nevada Department of Motor Vehicles, was California, with approximately one out of three new movers coming from our neighbor to the west. The state of Nevada has regained its title of the fastest-growing state in the nation. During the year ending July 1st, Nevada’s population increased 2.9% to more than 2.56 million. Census Bureau estimates list Arizona as the second-fastest growing state, after bumping Nevada off the top spot last year. Nevada has held the title of the fastest-growing state for 20 of the past 21 years.

Could Immigration Trends Hurt Las Vegas Apartments?

During a recent market study I noticed an alarming new trend. A trend that was confirmed by a recent phone conversation I had with a client, a substantial apartment owner here in Las Vegas and Phoenix. The trend of a slowing economy coupled by new immigration laws that are beginning spreading throughout the southwestern U.S., (i.e. Arizona & Texas) has suddenly caused properties with Hispanic demographics to increase in vacancies.This dilemma was brought further to light recently with the decision from Framers Branch, a suburb of Dallas Texas in their recent Ordinance 2952. Farmers Branch City Council unanimously approved the ordinance which would require all renters to pay $5 fee and claim US citizenship or legal immigration status to obtain an occupancy license from the city.

This new ordinance will bar illegal immigrants from renting homes and apartments in Farmer Branch. Key provisions:

*Prospective tenants would have to apply for an occupancy license.
*The application form will ask whether the person is in the U.S. legally.
*Anyone who completes the form and pays $5 will get a license and be allowed to move in.
*The city will verify noncitizens’ legal status through a federal database.
*Anyone identified as being in the U.S. illegally will get 60 days to prove otherwise.Violators – tenants or landlords – will face fines of $500 a day.

http://www.dallasnews.com/sharedcontent/dws/dn/latestnews/stories/012308dnmetfbrentals.2c1fcca.html

The State of Arizona as well, has a new law that went into effect January 1st, with strong penalties for employers hiring workers without legal status. Today, Arizona Employers hiring these workers could suffer a suspension of their business license for 10-days on the first offense plus fines; revocation of their business license on the second occurrence. Many hardworking Latino workers have begun leaving the Sun Devil State in the past few weeks, seeking employment elsewhere.

There are no such laws that I'm aware of in Las Vegas....Yet...but the word on the street is many employers are cracking-down on documentation for employment. When combining the slow-down in local housing construction where a great many Latino workers where employed and this budding trend against immigration. It is easy to build a hypothesis for higher vacancies going forward for Class - B/C apartments in Las Vegas. In today's apartment investment environment, investors demand purchasing buildings on actual operating income and expenses. Gone are the days of acquisitions based upon Pro Forma (a method of betting on the future) and higher vacancies equate to higher risks. 2008 could experience a widening spread in capitalization rates between Class - B/C apartments and their Class - A counterparts.

As reported by the RERC/CCIM report, surveyed institutional investors responses found the required going in capitalization rate for Las Vegas apartments is 6.0% as of 3Q2007. The terminal (exit) capitalization rate is 6.8%. The required pre-tax yield for Las Vegas apartment properties is 8.5%, a 20 percent increase from 2Q2007. I would suspect in 2008 Class – B/C properties should see an increase in spread of 130 basis points beyond a typical Class – A property. That would equate to approximately 7.3% capitalization rates for 2008 transactions. Guess what?...we’re already there and beyond!

Federal Reserve Emergency Rate Cut .75%

A sign that the Federal Reserve recognizes that the US economy is in a severe down turn. An inter meeting rate cut of 75 basis was made this morning after Asian and European markets sold off on Monday. The Fed has been viewed as being behind the curve in addressing the serious banking crisis and credit squeeze that has swept the US financial Markets.

Other news...Bank Issuer MBIA raised capital last week to avoid a downgrading by rating agencies and is still on the ropes this week. Should insurers for banks become insolvent, it will make life difficult for banks as their balance sheets are eroding due to the inability to value CDOs and other derivatives of the past financial engineering methods.

Generation "Y" in Las Vegas

A demographic of 75 million strong, generation Y - The population group born in the late 1980's through the 1990s - has the numbers to affect the housing market as profoundly as the baby boomer's did after World War II. This gives Multifamily Investors and Developers opportunities in Urban In-Fill locations where this demographic desires to live. In Southern Nevada, in-fill locations close to the Strip, Downtown Las Vegas and Downtown Henderson are such locations. Converting Older Class - C apartment sites to young hip attractions in the not-so-distant future will be the play. Here's what you should be looking for in your site selection:

1. Locations that fulfills their need for instant access and convenience to work and entertainment. Generation-Y will not want big houses on big lots, isolated from everything. They will want to be where the action is...think urban locations with bright lights, night-life and walkable locations.


2. Look for quirky, unique, and different designs...why not convert an old commercial building into housing such as a convenience-stores, or a well located 2-story office buildings/warehouses. How about a functional obsolete strip center close to the Las Vegas Strip. Turning these types of properties into urban town homes could be a home-run.


3. Create distinct architecture, bold colors, flexible floor space, and ample amenities tailored to their interest and tastes, (such as fitness centers, wireless internet connections, and gathering courtyards).

You should also be aware that changes in household formations are forcing developers and investors to think outside the box to attract renters and buyers. In the past, household formations on average were much larger requiring larger square footages per unit for housing families. Today, the average household is less that 2.5 persons per HH and they are forming much slower during the recession. I think this is the result of gender and practical economics.

Women today are more likely to be singles and are graduating from college at a faster rate than their men counterparts. Design with this fact in mind. That's because women will likely delay marriage to pursue their careers, and their housing choices will be far different from those made by their baby boomer mothers, with their likely favorite being close-in multifamily rental or for-sale units in mixed-use communities that emphasize communal space and social interaction.

The Good Old Days

That '70s Show May Return...Stagflation!

Last Fall in Las Vegas, I attended the annual convention hosted by the National Association of Realtors. Held at the Venetian Casino & Hotel, thousands of fellow Realtors from all across the country came to this event and I was glad to attend without the travel. Having taken part in these conventions for the past few years I usually attend the Realtors Commercial Alliance - RCA meetings and network dinners dealing with commercial real estate issues on a national level.

What made this particular convention the exception was a forum called "Economic Issues & Commercial Real Estate Business Trends" and its list of panelist; NAR Chief Economist, Lawrence Yun, and former NAR Chief Economist John Tuccillo. Also fellow Counselors of Real Estate-CRE, Stan Mullin of Newport Beach and Cynthia Shelton of Orlando, Florida.

The focus of course being the economic outlook for commercial real estate in 2008, where the opportunities may be and how to best prepare for what some view as a transitional year. I was most interested in hearing the views of the Chief Economist for the economy. But first an important disclaimer:

My views are the U.S. Economy has already entered a Recessionary Period that began most likely in the 4th quarter of 2007, or a Growth-Recession at the very least. Las Vegas' economy will follow the national trend in slowing economic output but to a lesser extent. Las Vegas will be one of the first metropolitan economies to exit this coming recession due to another building boom occurring on our Las Vegas STRIP...which creates enormous job growth.

Well, as you can imagine I was stunned to hear Lawrence Yun's forecast for the economy as not reaching a recession, GDP growth just below trend (that's 3 percent trendline growth!), and a bottoming of U.S. Housing in 2008. He also claimed corporate earnings will continue to grow and inflation as a non event. I just couldn't believe what I was hearing! Yun's forecast was probably the most rosey of the panel. Stan Mullin painted a more dire scenario quoting PIMCO's Bill Gross and the serious debt issues facing the global financial system. Cynthia Shelton gave her reasoning why commercial investment capitalization rates are sure to rise and why REITs buying interest may wane in 2008.

After these elaborate explanations, beautiful charts and enough credentials on the panel to give anyone academic-envy. It was time for the audience to ask the panelists questions. I ususally never participate in the question's portion of forum's but this time I just couldn't help myself. My opinions run strong and deep when discussing economics, particularly when I anticipate a turn in the real estate cycle. Finally, it was my turn at the mike...and after I addressed the panel with the following question I was known by the attendees in the forum as "The Guy with the Question"... Here goes;

"My name is Gary Banner, CCIM, CRE of Las Vegas, Nevada. And I'm not as optimistic about the U.S. Economy going forward in 2008. I see a secular bull-market in Oil...I see a secular bull-market in Gold. The U.S. Dollar continues to make multi-year lows and now it appears REITs are breaking into a new bear-market. Do you feel that we could be headed into an environment much like the 1970's with falling corporate profits and rising prices....Stagflation of some sorts?"

Yes, you guessed it...a stump-the-panel question to say the least. First, there was a puzzled look on the panelist faces. Then one after another they tackled the serious question I posed to them. I liked John Tuccillo's answer the best he said, "I can see an economy that is 6-and-6, meaning 6 percent unemployment and 6 percent U.S. Treasury yeilds, but nothing like the mid-70s or early 80s where these numbers where double digits."

Today, the stock market closed mixed at 13,056.72 up +12.76 as the price of Oil traded above $100 /bbl and Gold is well above $860 per oz. These are certainly inflationary signals. Plus, the 10-year treasury note which trades opposite its price, dipped to 3.89 percent from 3.91 percent yesterday. The notes are signaling a slowing economy. Look's like that '70s Show may return...Stagflation...or at least feel like it!

Look for Cap Rates to Head Higher

Click on Graphic to enlarge


With strong local fundamentals for apartment investment and healthy prospects for employment growth supporting apartment values. Cap rates were averaging in the mid-5 percent to low-6 percent range for most of 2007. The accompanied chart reflects data collected through 3Q2007 and primarily Class-A assets. Investor demand is strong for A product in A locations, and for B product in B locations of the valley. Only in the past few months of 2007 have I noticed that Class-C rates have begun to compress - in the high-7 percent range...I think they may head even higher.


I predict investors going forward will require higher yields on their investments...(cap rates), and acquisitions based upon pro forma is basically a non-starter. Especially for Class B/C properties under poor management or locations. If the property can't show a cash flow at acquisition it will be difficult for the investor to finance these deal, thus causing cap rates to increase in order to clear the market.


Cap Rates may rise across-the-board but the gap between Class-A and B/C may widen further. For the past few years B and sometimes C properties have been trading at the same cap rates as prime Class-A. For well located, well managed deals, I've been successful in selling those deals that are true value-add with prospects for redevelopment. That should continue for 2008 as well. But, owners in off-locations may need to buckle-up, their ride may get rough.


In summary, Class A in A locations - expect their cap rates to increase 25 to 50 basis points and Class C in challenging markets may reach 130 basis points higher.

Real Estate Forum Article

This morning I read an article titled "For Multifamily, Road to Prosperity Is Full of Obstacles" I couldn't help but recall what a year 2007 was for Las Vegas' real estate market. After a strong housing price appreciation for years 2004 - 2005, prices peaked in 2006 which was an obvious Real Estate Cycle Top. Here's an interesting quote from this article:

An oversupply of houses and condos is creating a glut of "shadow rental" product in some areas, and high-leverage investors and developers are finding it impossible to put together the extensive debt packages that were available a year ago.

This is precisely what has occurred for many developers in the Las Vegas real estate market. The thousands of Single-Family homes and Condo Conversions For Sale (approximately 25,000), have now recycled into our rental market. This has put a lid on rent increases for existing apartment properties and has caused "absorption" to nearly cease. I suspect this will lead to increases in vacancy and rent concessions for 2008.

Much like the recession years of '2000-'2001, owners and/or property managers will begin discount pricing in order to keep occupancy levels up. Trying to lessen "turn-over" which hammers the "effective occupancy" levels taken into account vacancy plus lease-up time.