By Roland Murphy for AZBEX
Last week we talked about the constraints holding back construction and completions, which had been a primary theme of the BEX Companies 2022 Forecast Event. For those of you who missed the event or the writeup, a major takeaway came from BEX Founder and President Rebekah Morris when she said, “We have projects that could go well north of 20 billion (dollars). The market can’t deliver them. We’re going to hold our projections flat. We think the market’s at capacity. Unless we get some massive increase in supply, we’re not going to be able to deliver a lot more.”
As the two hottest sectors, that holds particularly true for industrial and multifamily. Still, the sheer volume of projects in development has some researchers and analysts convinced that the market constraints – particularly in terms of labor and supply chain issues – will somehow break through the logjam and let the Greater Phoenix market deliver more than 20,000 new units in 2022.
Folks, I’ve spent more than 30 years as a reporter, trend analyst and data geek. I understand the impulse to deliver good news, particularly when – viewed from a high level – it looks like some of the numbers should warrant aggressive cheerleading.
Unfortunately, data really only matters when viewed in context, over time and from the ground. I’ve developed a reputation as a bit of a curmudgeon because of this. When I worked the corporate side of the street, I was the guy who took the wind out of overly enthusiastic marketers’ sails by asking, “But did you factor for (this), (that) or (the other)?” and caused them to revise highly hopeful projections downward.
It’s not a role I relish filling. It brings me no great joy to see that spark of optimistic delight flicker and fade from a researcher’s eyes. It is, however, a duty and obligation to look at things as objectively as possible and provide as much clarity as can be gleaned.
Because of that, I’ll give you the gist of the rest of this column right here and now: Phoenix delivering 20,000 apartments in 2022 just isn’t going to happen.
RealPage
My first notice of the 20k+ estimates came in a January 12th Phoenix Business Journal article about new projections from RealPage. Figuring there had to be some mistake, I looked up the actual report. Nope, RealPage’s Kim O’Brien actually projected Phoenix will deliver 22,000 units and lead the country in 2022 multifamily deliveries.
That would be a 5.7% increase in multifamily inventory, according to the report. It also would more than double deliveries from any year in the recent past.
I reached out by email to RealPage’s Kim O’Brien, the researcher who authored the report, with some questions about the reasoning. She and RealPage Director of Analytics Carl Whitaker were kind enough to respond. Their responses have been edited for length and formatting.
Asked how they arrived at their 22,000-unit estimate, particularly given the labor and supply chain impediments to development, O’Brien said, “This is the big question in the industry right now: How likely are record construction numbers to hold? … So, the numbers we are showing right now are based on the latest development data we can find. Of course, our strategies have evolved in the past two years, with supply chain disruptions and worker shortages (and with those challenges getting worse with each new COVID-19 variant), and it’s become clear some of these timelines will likely not hold. However, I should point out that developer timelines rarely hold in the best of times, which is why we have always updated them quarterly.”
I pointed out Phoenix has consistently failed to meet even fairly modest delivery projections in the best of times in the last several years and asked how confident RealPage was in its estimation the market’s multifamily output will more than double this year.
O’Brien said, “We anticipate the number of actual completions in 2022 will be smaller than the scheduled volumes. This all depends on the virus variants and how that continues to affect worker and supply shortages.”
“Perhaps remarkably so,” Whitaker added. “We saw actual end-of-year deliveries for 2020 and 2021 weren’t too far off start-of-year estimates (roughly 10% or so off the original estimates, which tends to be a ‘normal’ deviation even in the pre-pandemic years). Construction delays in the coming year may be more pronounced however, as now many of the projects starting will be relying on a disrupted supply chain (Many of 2020/2021 deliveries were functioning on at least a more stable supply chain, minus COVID-reduction measures of course.)”
Asked to what extent RealPage expects inflation and interest rate increases to impact multifamily development and investment this year, Whitaker said, “Inflation and rising interest rates will both be headwinds to new construction without question. But I think the degree to which those headwinds impact multifamily development & investment in the coming year or two is probably exaggerated. Multifamily yields are still favorable compared to other CRE investment types, and liquidity of multifamily assets remains a positive influence as well. Additionally, we’ve seen performance among multifamily housing assets supportive of the increase in investment volumes.”
RealPage’s reasoning for the prediction is the volume of projects in the pipeline, which is heavy both in Phoenix and around the country. The post around the projections, though, comes to some unsupported conclusions. Specifically, “How likely is this number to hold, though, given we are now amid another COVID-19 variant surge? We also asked ourselves that question in 2020 and 2021, when global supply chain disruptions and worker shortages were delaying construction timelines. While these setbacks did result in smaller than anticipated apartment delivery numbers in those years, it’s clear that the delays didn’t derail developers’ ability to get projects completed. In fact, the increased number of deliveries slated for 2022 are likely compounded by delays from the last two years.” (Emphasis added.)
That’s half-right, at least for the Phoenix and Arizona markets. As was noted in the 2022 Forecast event, those disruption-caused delays absolutely did hold back developers’ ability to get projects completed, to the tune of nearly $4B across all sectors. That means, in part, many projects under construction that were projected to complete in 2021 have carried over into 2022. That part is absolutely correct. What have also carried over are a) new projects continuing to add to the bottlenecked process and b) every constraint that impacted the ability to deliver in 2021. All those problems are still in place. No capacity has been or can realistically be added.
Pressure building on one side of the dam will not necessarily (or even probably) remove the obstructions. It may just expand the flooding on that side, creating a deeper pool while merely increasing a small trickle on the downstream side. Dams rarely actually burst, and it’s even more rarely a good thing when they do.
Morris summed it up nicely in her presentation. “There’s plenty of demand there. We could have done twenty-two billion dollars. That’s the project-level data we have for 2021. We thought it should have come in at 22. It came in at 17.9. Kind of a swing and a miss. That’s significantly different. Demand does not go away, so projects that should have happened in 2021 are going to carry over to 2022. All those constraints… everything is going to kick the can… just push it out a little bit. The market can’t handle all the volume for all the projects that really want to happen.”
Just on its own, I would have shrugged off the RealPage report as an aberration. No one should get particularly hung up on one report or data point. This way lies madness. Unfortunately, it is already making its way into the market conversation. In a separate Phoenix Business Journal article from January 14th covering the IREM CCIM Economic Forecast, Portico Property Group Executive VP Robert Hicks echoed the 22,000 number.
Contacted via LinkedIn, Hicks confirmed he got the number from his analyst at RealPage.
Marcus & Millichap
Then, on January 18th, the Marcus & Millichap “2022 Multifamily Investment Forecast” hit my inbox. Here, too, was a projection of more than 20,000 units completing in 2022.
The body of the report said, “… completions in 2022 will practically double the previous annual peak across the past two decades, putting some upward pressure on vacancy. The additions are necessary, however, as availability entered 2022 more than 100 basis points below the next lowest year-end rate going back to the turn of the century.”
I reached out to John Chang, senior VP and national director of research services for Marcus & Millichap, with the same question list I had sent to RealPage asking for more details. Despite a relatively short deadline, Chang was gracious enough to respond in detail. Here is a portion of the exchange, edited for length and formatting.
Q: Marcus & Millichap, RealPage and some others are projecting the Phoenix market will deliver in excess of 20,000 multifamily units in 2022. Given that Arizona is between 70,000 and 80,000 workers short of the staff to meet current production demand across sectors, and the ongoing supply chain and input prices issues, what is the basis for that finding?
A: For completions we tabulate the total number of units under construction or that we expect to be completed in the year based on builder start dates and plausible completion dates. It is entirely possible, even likely, that some units will be delayed given the labor, material and appliance shortages, but it’s very difficult to calibrate the reductions of completions for the year on a market by market basis. Therefore, we do not reduce the expected completions in an effort to estimate the reductions, at least not in our forecasts at the beginning of the year. As the year progresses, we will refine our forecasts.
- How confident are you in the assertion Phoenix will “practically double the previous annual peak across the past two decades” for 2022?
- We revise our forecasts as new information comes available. Construction delays can reduce the totals, but sometimes projects, especially smaller ones, that are not on the radar at the beginning of the year can manage to complete within the year. In 2021, the total number of completions was approximately 10,500 units, which was the most new apartment units completed in a single year since at least 2000 (That is how far back we track the market data.) We are forecasting 20,800 units in 2022, a sizable increase but even if 20% of those units fail to deliver this year for some reason, Phoenix is still on-track to set a new record in 2022.
In summary, the Marcus & Millichap projection also stems from the current pipeline, but the company’s research leadership is aware of and acknowledges the potential barriers in the market and stands ready to revise the projections as the year rolls on. Even though the projection is still overly optimistic, in my evaluation of the current conditions and based on historical performance, that can fairly be termed a rational and responsible approach.
Methodology
Before we dive into the hard numbers, let’s first clarify some methodology to sort out the apples, oranges and other produce we’re looking at.
Yardi Matrix is the national default source for multifamily information. Their information is somewhat incomplete for our purposes, however, since their reporting only covers developments of 50 units and more.
DATABEX, on the other hand, covers all developments with construction cost estimates of more than $5M. As a result, projects under consideration tend to be greater in number than Yardi’s counts, simply because there are lots of projects in the 10-49-unit range at any given time.
For the most part, since we want to keep everyone’s data as comparable as possible, we will be using Yardi numbers but noting DATABEX information where it’s relevant to the discussion.
The History Shapes the Present and Determines the Future
The adage, “The best predictor of future behavior is past behavior,” is so entrenched in modern discourse we cannot even site who first coined the phrase.
As was pointed out in last week’s BEX Companies 2022 Forecast Event, based on prior market activity and demand, we had projected $5.195B in multifamily construction volume for 2021. The market actually delivered $4.06B due to the constraints of labor and materials shortages, and supply chain disruptions, among others. Still, the data support optimism precisely because of that ever-increasing demand, so we are projecting $5.5B in activity this year.
The $4B BEX reported for 2021 yielded 50 project completions totaling 9,892 according to Yardi, 8,072 of which were market-rate (total minus student housing, fully affordable and age-restricted). For comparison, DATABEX researchers entered 69 projects as completed in 2021, for a total of 12,547 units. Ten of these projects had 50 units or fewer, for a total of 369. Some of those, however, may have completed in Q4 2020 and not been recorded until early 2021.
Looking at the past five years’ data from Yardi and ABI Multifamily, which primarily relies on Yardi as its source, we can note a fair degree of consistency in construction starts and deliveries. From 2017-2021, construction starts averaged 29 properties and/or 7,144 units; completions averaged 41/8,776. Units under construction data is only available for 2019-2021, but those years averaged 26,864, ranging from a 2019 low of 15,896 to a high last year of 35,711.
That volume of units under construction is the driver behind the current high projections. While many new projects are added every year, in the past two years, many more than usual have carried over from year-to-year because of the production delays mentioned above.
Taking these and other factors in mind, I reached out to Thomas Brophy, research director at Colliers in Arizona, for his take. Full disclosure, Tom is a frequent source for news outlets both around the state and nationally, as well as a personal friend of mine. He was given no guidance as to what views or conclusions we were looking for and was given the same question list provided to RealPage and Marcus & Millichap. It should be noted that Brophy’s responses dealt only with market-rate projects, since those are the core sub-sector of interest and comprise roughly 80% of total projects in development. His responses have been edited for length and formatting.
Brophy said, “In 2021, and despite expectations of between 9,500-to-11,500 unit deliveries, only 8,072 new units delivered or (7.9%) below 2020’s 8,767 delivery amount. In fact, deliveries have declined since 2019’s near-term high of 9,008 units, largely impacted by ongoing Pandemic and related supply chain issues. Actual projects under construction saw continued increases in over-the-year reading, rising 37% to its current 34,542 units amount across 134 separate projects in the Phoenix MSA. From 2015, Phoenix has averaged 1,951 units in quarterly deliveries. Assuming the quarterly delivery average holds moving forward, it will take approximately four years to deliver all units currently under construction.” (Emphasis Brophy’s)
“Multifamily Permits (5+) hit another high rising 4.4% Year-over-Year to just below 14,500. Despite sustained increases in multifamily permitting, overall permits, which include single-family, are still 27% off the peak set in 2005 at 68,402 units.”
The More Realistic Numbers Are Still Record Setting
So, after all this back-and-forth over prognostication and prophecy, where does that leave us? It leaves us in very good shape.
In a separate message exchange, Brophy set his 2022 delivery projection at between 11,500 and 13,000 units, “based on supply chains, inflation and bureaucratic (barriers).”
This is much more in keeping with the $5.5B volume prediction BEX’s research arrived at. As DATABEX Manager Lya Parrish pointed out at the 2022 Forecast Event discussing the multifamily market projection noted above, “We have the projects in the database to predict over $7B worth of work in multifamily in 2022, but we don’t think that’s going to happen. We’ve seen that the market can’t accommodate that much work. So, we dialed it down to $5.5B. That’s still a 25% increase from 2021. We’re still predicting an increase, but not to the over $7B mark. We’ll see. You never know.”
Splitting the difference between Brophy’s predicted high and low estimates gives us a target of 12,250, a 23.8% increase from 2021-2022.
That may be disappointing to people who want to grab on and hold tight to the hopes of 22,000 units coming to market this year, but keep in mind that only in a market this hot could a 25% YoY improvement be grounds for disappointment.
Going back to my exchange with John Chang from Marcus & Millichap, I think he provided the best perspective overall on how to look at the current state of affairs, both in terms of its challenges and its potential. He said, “We are forecasting 20,800 units in 2022, a sizable increase but even if 20% of those units fail to deliver this year for some reason, Phoenix is still on-track to set a new record in 2022.”