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The 'Revenge Of Homeownership' And 5 Other D.C. Real Estate Trends To Watch

The U.S. rate of homeownership fell steadily for several years following the Great Recession, but it has begun to rise again, a trend that is coinciding with a drop in multifamily construction. 

Sage Policy Group CEO Anirban Basu

By mid-2016, U.S. homeownership had dropped to 62.9%, its lowest point since 1965. But that began to reverse in 2017, and by Q4 it had reached 64.2%.

"Homeownership is about to come back in this country with a vengeance," said Sage Policy Group CEO Anirban Basu, who presented these statistics at Transwestern's TrendLines event Thursday evening. 

The millennial generation is the largest in America, and the three most common ages in America today are 26, 27 and 25, Basu said. Over the next 10 years, Basu expects a widespread shift of those young adults going from renting apartments to owning homes as they reach their 30s. 

"This is going to continue because we have 10 magical years in front of us, and we’re already seeing the first-time homebuyer market come back to life," Basu said. 

A graph showing new multifamily construction has peaked.
Source: Census Bureau, Sage Policy Group; February 2018

As homeownership begins to rise, the booming pace of multifamily construction has begun to decrease in recent quarters after skyrocketing for years. 

"Not coincidentally, when you look at private, new multifamily construction, which is largely comprised of apartments, you can see the apartment building cycle has already peaked in this society," Basu said. 

This shift was the first of six megatrends experts presented at TrendLines, giving the industry a preview of the most important factors to watch in the coming years across all sectors. Here are the rest of the megatrends: 

2. Commercial real estate values could be hitting a bubble

A sharp rise in foreign investment in U.S. commercial real estate over the last three years has caused property values to rise and capitalization rates to fall. But Basu said this foreign spending could be more a product of not having many better options for high returns around the world, rather than there being underlying demand in all of the property. He said this is especially true in New York City and D.C., which in the first half of 2017 accounted for 17.4% and 9.7% of total foreign investment in the U.S., respectively. 

"This raises the value of office buildings, hotels, apartment buildings and shopping centers," Basu said of the foreign investment spike. "And that's a signal to the developer community to build more units and build more space. But the question becomes is there really demand for all of that space? This is why I wonder if there are speculative asset bubbles people formed in some of these real estate segments. It's something I worry about." 

Delta Associates President Will Rich at TrendLines 2018

3. Elevated apartment absorption

The D.C. area has absorbed more than 10,000 units each year since the end of 2014, well above its long-term average, and the District in 2017 set a record with 3,618 units absorbed, according to Delta Associates. Rents have still dropped in some areas due to a massive supply of new apartment units, but demand from young renters has kept the market relatively stable. 

"While there has been some news recently that there’s been a net migration of millennials leaving for more affordable cities with better job prospects, it doesn’t appear those who rent Class-A apartments have packed their bags yet for Austin or Nashville," Delta Associates President Will Rich said, likely referring to a recent report from economist Stephen Fuller. "We don’t expect absorption levels to change significantly in the metro area in 2018, although rent growth unfortunately will remain muted due to stubbornly high development pipeline, especially in the district." 

4. Boutique condo development could be coming to an end

Following the recession, it became difficult to finance large condo projects in the D.C. area, and developers instead chose to build smaller, boutique projects. This brought the average unit count of new D.C.-area condo projects from between 130 and 150 to just 75 units, according to Delta Associates, its lowest in 15 years. But that trend has begun to reverse with developers now taking on larger projects. The average condo project size in the District has already begun to grow, and the suburbs are expected to soon follow. 

"We expect the average unit count in the District will continue to increase in 2018 and the metrowide average will start rising as larger-sized projects are projected to start construction," Rich said. 

Transwestern Managing Director of Research Services Elizabeth Norton at TrendLines

5. The amenity war will ramp up in the Class-A office market

With new trophy buildings drawing law firms and other high-rent tenants, and value-conscious companies taking Class-B space, competition has become heated in the Class-A market.

Transwestern projects Class-A vacancy will rise from its current 13.2% to 15.3% by year-end 2019, Managing Director of Research Services Elizabeth Norton said. 

Many landlords have launched major renovations to try to make these buildings more attractive. Norton's research team analyzed 45 of those projects and found that the move has successfully lead to faster lease-ups and rent gains of 7%, though those were largely offset by the construction costs.

As more landlords turn to this strategy, they are stepping up their amenity game, creating high-end fitness centers with class offerings, rooftop decks staffed with baristas and full kitchens, and conference centers with pool tables and golf simulators. 

"Out-amenitizing your competition has become the new normal for the office market and we expect the amenity war will ramp up over the next few years, particularly for second-generation Class-A buildings," Norton said. 

6.  Spike in industrial rents

The rise of e-commerce and the move toward faster delivery times has created booming demand for last-mile warehouse space near population centers. But this has coincided with the land where those warehouses could be located becoming much more valuable and often being converted to residential use. Average flex-industrial land prices in the D.C.-Baltimore region between 2013 and 2017 were 93% higher than the prior four-year period, Norton said. Given these market conditions, Transwestern projects industrial rents will spike over the next two years. 

"High land prices have discouraged industrial development as the financials just don’t pencil out, which limits options for tenants looking for new and efficient space," Norton said. "But it hasn’t hurt demolition, as nearly 30M SF of product has or will be removed from inventory with most of this being converted to multifamily."