Apartments Find Home Along Boston Skyline

BOSTON — Up go the cranes. Boston’s skyline is changing. Except this time, the new glass and steel towers will not be filled with tenants scrambling for the exits at rush hour. Instead, they will be taking the elevators up at night. New luxury apartment towers are sprouting up throughout the city. By our count, approximately 7,600 units of institutional quality rental housing will be delivered in Downtown Boston over the next four years. Established communities will grow while new neighborhoods will be born in the Financial District and Seaport. Is this a bubble waiting to burst? We think not. The current wave of multifamily development is not an overzealous rebound. It is a long overdue transformation of Boston’s rental housing. Developers are reacting to a paradigm shift in the way people want to live. The units will be absorbed, the rents will be high, and in the end, the tenants, developers and investors will all be well served. By the numbers Our estimate of 7,600 units only includes projects of 100 units or more. At first blush, the size of the pipeline can seem daunting. After all, it represents more than a doubling of the existing institutional housing stock. Since 2000, less than 3,100 units of institutional quality rental housing have been built in Boston. Prior to 2000, there were only 3,600 such units. High-rise and urban living simply doesn’t exist in Boston the way it does in other core markets like New York, Washington DC, San Francisco and Seattle, at least not on the same scale. The last wave of multifamily development in eastern M a s s a c h u s e t t s occurred primarily in the suburbs along Route 128 as developers took advantage of 40B. This time is different. Outside of the 7,600 units in Boston, there are only about 4,800 additional units in the pipeline. Of these, 2,700 are closely concentrated within the “Outer Urban” area of C a m b r i d g e , Somerville, and Watertown. This leaves only 2,100 units in the suburbs, a far cry from the approximately 20,000 suburban units built from 2004 to 2008. A new type of renter The vast majority of the new downtown construction will be mid- or highrise, with proforma rents in the mid $4/sf/month range. To fill the units, developers are banking on a new type of renter – one that is willing to give up space in the suburbs for the convenience of a true live/work/play lifestyle. While metro-Boston as a whole has famously slow population growth, recent demographic reports show the city’s population on the rise while the suburban population is in decline. Couples are waiting longer to get married and have children and tighter credit is making homeownership more difficult. After witnessing the devastation to the housing market during the recent recession, the lack of required investment and flexibility of renting has become increasingly desirable. These new renters have a strong and stable income (sometimes two), and the money they save by using Zipcar and public transportation helps lessen the impact of $3,000 to $6,000 rents. Making the economics work Inevitably, with increased development comes rising construction costs. Steelframe budgets have grown by 15 to 20 percent over the last six months alone. With costs now approaching $600,000 per unit for the most expensive projects, investors need long-term build-to-core capital or to become comfortable with the appetite of core buyers on the other side of the transaction. Unfortunately, we have not seen a trophy downtown property trade since Park Lane Seaport in 2010. This is largely due to investors’ reluctance to relinquish infill multifamily properties in Boston. However, recent Class A suburban sales comps are creeping into the low 4 percent cap rate range. We believe that if a prime downtown property were to trade today, it Avalon Apartments at Prudential Center, Boston MA Apartments Find Home Along Boston Skyline 6 THE REAL REPORTER November 2, 2012 REAL VIEWS Is this a bubble waiting to burst? We think not.would sell at a sub 4 percent cap rate on in-place NOI. This could put the value of the highest quality properties north of $800,000 per unit. The values may be unnerving, but they are supportable. The high watermark for rents is currently well over $5/sf/month at One Back Bay, with other properties like Archstone Boston Common close behind in the high $4/sf/month range. Although cap rates have dipped lower than during the last market peak, the spread between cap rates and treasuries is near an all-time high. Interest rates are low and debt is readily available from GSEs and other sources, creating strong leveraged returns. The shift toward urban living has been occurring for some time, but not enough product has been built to meet the pent up demand. Capital allocations are driving more and more institutional equity into the top few real estate markets, while the re-emergence of construction financing is finally allowing developers to build on sites that they have held for years. Add to the mix the Boston Redevelopment Authority’s recent increase in approvals and planners’ efforts to turn Boston into a true 24- hour city and we have the recipe for a robust but sustainable development pipeline. Yes, the skyline is changing. But this time, the lights will stay on at night