Last month, the firm issued a memo (Fear, Greed, and Residential REITs) in which “current valuations reflect the group’s overly dismal outlook as most signs tilt toward the crisis.” emphasized the belief that Demand re-accelerates and occupancy rates are strong ahead of the critical spring/summer rental season. We argue that the value of apartment REITs is attractive, stating, “Many of our constituents currently offer dividend yields of around 4%, and these dividends are well funded by operating cash flow.” It also points out that the Group’s profit growth (operating capital) forecast for 2023 is in the range of 6-7%, and the sub-sector is currently at It is trading at a discount of about -20% on the market, and has historically traded at a modest premium to NAV.”
With the earnings season in full swing in the first quarter of 2023, most apartment companies are reporting earnings that match or slightly exceed company guidance and investor expectations. More importantly, a small number of operators (AVB, CPT, MAA) are confident of raising their full-year 2023 outlook, despite a slowing domestic economy and high volumes of stills deliveries. and the earnings outlook for the summer leasing season was encouraging. Appears in many Sunbelt markets. A combination of low expectations and undervalued valuations for the group has resulted in significant absolute and relative performance improvements for apartment REITs. Over the past six weeks, several constituents have increased by 10-15%. In April, apartment REITs achieved a total return of +4.55% and single-family rental REITs achieved a +6.48% return. By comparison, his FTSE NAREIT Stock REIT Index return was +0.83% for the same month. On a one-year basis, the apartment REIT still makes up significantly, trailing the broader FTSE NAREIT equity REIT by 600bps.
Looking at the apartment industry from a national perspective, a recent CoStar analysis highlighted a decline in multifamily uptake that began in late 2022 and accelerated towards the end of the year. While net absorptions have started to improve recently, an imminent supply overhang is being felt in many Sunbelt markets as rent growth picks up significantly in the Northeast and Midwest regions. As an example, cities and submarkets around Indianapolis, Cincinnati, and northern New Jersey all saw rent growth in the range of 4.5% to 6.5% in the first quarter of 2023, while Las Vegas and Phoenix grew by -1.9% over the same period. A decrease was seen. The national level vacancy rate is 200bps above the historic low of 4.7% achieved in early 2022, and Kostar expects the national vacancy rate to be around 7% by the end of 2023. . Supply will be the big story in the multifamily segment in 2023, with Kostar expecting about 520,000 units to be delivered annually, the highest level since the mid-1980s. Of the top 20 markets expected to achieve record deliveries this year, 12 are in the Sunbelt metropolitan area.
A national perspective is useful, but the situation on the ground varies greatly by region, submarket, price range, or asset quality. Q1 reports from apartment REITs were decidedly more positive than those gleaned from the national data. Fundamentals across the coastal and Sunbelt markets are showing signs of sequential improvement, with both rents and occupancy accelerating in the first few months of 2023, with April highlights and May, June Encouraging data was also highlighted in rental renewal notices issued in the months of May and July.
With conditions across the economy, especially consumers, raising concerns among investors, the REIT’s management team said unemployment remained low and rent and income levels were below historical standards. He was quick to point out that the REIT’s residential base is solid. Inflation will weigh heavily on consumers in 2022, despite a strong economy and low unemployment. Inflation is now starting to moderate, consumer sentiment picked up in the first quarter, and could provide an even bigger tailwind for apartment REITs as the year progresses.
Many coastal operators have benefited from not facing overcapacity in the coming quarters, improved Q1 2023 bad debt costs (primarily in California), and this positive momentum will continue throughout the year He said it is expected to continue. Demand in the Sunbelt market is reported to have improved despite the normalization of migration patterns that accelerated after the outbreak of the pandemic.
Avalon Bay Community (AVB), which focuses on some of the big names in the group, got off to a strong start to the year by exceeding expectations for the quarter and raising full-year earnings expectations. The operating metrics continue to be impressive, with the company reporting comparable store revenue, operating expenses and net operating income (NOI) of 8.5%, 4.7% and 10.3% respectively. Rent increases accelerated through April, led by regions such as the East Coast and southeastern Florida. The occupancy rate at the end of the period was 96%. The company also notes that some small developers have lost access to construction funds, which has led to a slight decline in construction costs along with land prices, which could turn around development activity. The market for multifamily and other residential acquisitions remains very sluggish, with a wide gap between buyers and sellers, and development projects could be the main source of outside investment in the coming quarters.
Equity Residential (EQR) got off to a strong start to the first quarter of the year. They raised their dividend by 6%, with coastal markets benefiting from rebounding demand and manageable levels of supply. Performance at existing stores was strong, with sales up 9.2%, operating expenses up 7.2%, and NOI up 10.2%. Operating expenses in the quarter were inflated by cleaning costs related to the torrential rains that plagued many parts of California earlier this year. In Southern California, delinquents continue to either collect their past due rent or move out, which has pushed up the income numbers. The portfolio’s college-educated resident base is financially stable, with a rent/income level of 20% on new leases. EQR’s New York and Washington, DC portfolios have beaten expectations so far this year, and Southern California is finally starting to improve. San Francisco is performing as expected, Seattle’s portfolio is underperforming, and the market expects more concessions due to pockets of oversupply.
Mid-America Apartment Communities (MAA) reported best-in-class results of 11.0%, 8.3%, and 12.5% in same-store metrics revenue, expense, and NOI for Q1 2023, respectively. Earnings exceeded expectations, and the company revised its full-year outlook slightly upward. Despite MAA’s exposure to Sunbelt markets, their portfolio achieved positive net absorptions and occupancy consistent with levels recorded early last year. April was also solid, with supply expected to put some pressure on rents this year, but the overall outlook is positive. The company expects multi-family starts to slow by the second half of the year, and expects supply to peak in 2023 as starts remain subdued until 2024.