Apartment owners must prepare for the future

Only place interest, cap rates can go is up
Tuesday, September 18, 2012
By Derek Lobo

These are good days to be in the purpose-built rental apartment market. Vacancy rates are low, average rents are on the rise and demographic changes suggest demand, which is already outstripping supply, is going to increase. Cap rates have compressed to record lows and apartments have been selling for some of the highest prices in Canadian history.

According to RealTrack.com, more than 100 apartment buildings have already sold in Ontario this year, amounting to total sales of more than $670 million, and an average per unit price of more than $148,000. One Toronto transaction net an astounding per unit price of more than $600,000.

Unfortunately, as with any boom though, the good times won’t last forever.

What could change?

Canada’s record prices are largely being fed by record low cap rates. The major driver for low cap rates is low interest rates.

Interest rates have defied expectations and stayed low for the past few years but there is nowhere else for these rates to go but up.

Further, consider the average age of much of Canada’s rental apartment stock. These buildings aren’t getting any younger and the increasing need to make capital improvements on aging stock will nudge cap rates higher.

At this time, it would be wise for small and medium portfolio owners to take steps to protect their investments against changes in the marketplace. Owners need to examine their portfolio and sell the outlier – the one underperforming building of the portfolio. It is not only a good time to sell but funds realized from such a sale can be applied to capital improvements on other properties, increasing their value, reducing operating expenses and improving the company’s bottom line.

This doesn’t mean owners should be worried about the future. Times have been remarkably good for the industry and the fundamentals of the marketplace are strong. There are plenty of excellent investment opportunities to be had across the country. It’s just that those who like to enjoy the years of this boom and the next, as well as the leaner years in between, should always invest an ounce of prudence to protect themselves from the marketplace in case things change. This goes hand in hand with finding the best new investment opportunities.

Derek Lobo is chairman and CEO of Rock Advisors Inc., an Ontario-based commercial real estate firm with an exclusive focus on apartment brokerage services.

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