Philadelphia Rental Market Poised for Takeoff

millennialsThe prospects for new multifamily construction in Philly look good in the long run, a panel of insiders say – but there are some matters that need to be addressed for the market to truly blossom. The millennial generation (pictured at left) is getting tired of living with its parents and is ready to strike out on its own. Developers and investors are now giving them the apartments to rent here, and are ready to supply even more if the jobs they need materialize.

That was the rough consensus of the panelists who spoke on the state of the Philadelphia rental property market at the RealShare Philadelphia conference at the Union League Feb. 27.

Things are picking up on the multifamily front, said panel moderator Jerald M. Goodman, partner at Drinker Biddle & Reath LLP. In fact, he said, “Multifamily is hot.”

And it is, by Philadelphia standards. Cushman & Wakefield Senior Director Karen Iman said that since her firm started tracking multifamily projects about two years ago, the number of new units in the pipeline has grown steadily with each passing year. For 2015-16, Iman said, 1,600 new units are slated to come on line, with an additional 5,000 proposed. Over the next three years, she said, there are 10,256 units in the pipeline in the city, “and that doesn’t include University City.”

The pace is fueling steady growth in inventory, she added: last year, inventory rose six percent. This year, it’s set to increase by 8 percent, and the year after that by 15 percent. If all the “back-end” proposed projects come to pass, she said, inventory could grow by as much as 40 percent.

But that might be a big if. Some trends, such as a surge in the area’s population of Millennials, point the way towards stronger growth. Others, like high barriers to entry, relatively low per-square-foot rental rates, and weak job growth in the city could keep the market from realizing its full potential.

Post Brothers Apartments CEO Mike Pestronk said the market for higher-end rentals is there, and it’s willing to pay more for what it wants, but at least as of now, that market is made up largely of Millennials, most of whom are coming here from outside the region.

“The median age of our renters in the city is 25. In the suburbs, it’s 27,” he said. “Forty percent of our renters are moving here from out of the area, and only 25 percent of them work in the eds and meds. We’re at the top end of the market, so for us, [higher growth] is an affordability issue.”

And that, in turn, depends on growth in jobs that pay well. Pestronk said that there are enough of these jobs for millennials to support a more robust high-end market — “We have about the same number of young professionals making $100,000 to $150,000 a year as in Boston and DC,” he said. “There’s room for them to pay more” — but other demographic segments aren’t faring as well, and so far, rents in the city have not risen to levels that would stimulate the kind of rental construction those two cities have seen.

CBRE Senior Vice President Lizann McGowan noted that city rents needed to be at least $3 per square foot in order to support new high-end apartment construction. “There are now projects here that are getting that much,” she said, “but rents in other East Coast markets are at least $4 or even higher. Why can’t rents here be at least $3?”

One reason, said HFF LLP Senior Managing Partner Mark Thomson, is because housing in general remains more affordable here. “There’s not the constraint on the market here that drives people to rent in New York and Washington,” he said. He then added that the relatively low rate of production of new apartments is good news for investors, though: “We’re getting 2,000 units, but Boston is getting 15,000 and Washington 28,000 over the next two years, so rents will get shellacked there,” he said. “Philadelphia doesn’t get rent spikes, but it doesn’t get steep drops either, so investors will be glad they put money into this market.”

Pestronk saw it as more of a supply issue. “Rents are where they are because there’s not a lot of quality product,” he said. “People who come here from Boston and Washington complain about the quality of apartments here,” he said. “The really good projects are getting rents in the low to mid 3s.”

Iman backed him up by noting that condos for rent in Rittenhouse are getting rents above $4 a square foot. “But we don’t have a lot of high-end inventory to measure where this could go,” she said.

Thomson said he was surprised that owners of lower-grade properties weren’t selling to buyers who could upgrade them to furnish more of that inventory. “Someone can pump $5,000 into a unit and get an additional $250 to $300 a month” in rent, he said.

This, Pestronk said, might require some attitude adjustment among the owners of such properties. “A lot of developers here are of the mindset that renters are second-class citizens,” he said. “I’m not going to name names, but there’s everything Philadelphia Management has built.” Efficient layouts, higher-quality bathrooms and kitchens, and better lighting would pay for themselves, he said.

Thomson said that prospects for rental properties in the suburbs are also strong inasmuch as “not everyone wants to work downtown.” Along with McGowan, Thomson predicted that multifamily construction would post healthy growth in the suburbs as well – possibly even healthier than in the city, especially in transit-accessible locations. But there won’t be the sorts of office-to-residential conversions that have taken place in the city, for as Pestronk noted, “the buildings won’t support it. Their floorplates are too large.” Yet with many suburban municipalities looking to increase ratables, McGowan said, a developer who came along with a proposal to flatten a suburban office building and put the land to higher and better use might get a warm reception.

The RealShare Philadelphia conference was the first of a series of annual regional real estate conferences sponsored by ALM Real Estate Media Group, publisher of Real Estate Forum and the website