While apartment sales can’t match 2017’s torrid second quarter, the market still boasts robust numbers as cap rates remain low and values rise.

Declines in entity-level and portfolio deals drove apartment sales volume down seven percent year-over-year (YOY) in the second quarter, according to Real Capital Analytics’ (RCA) US Capital Trends report.

While the number of larger deals fell, sales of single apartment communities rose five percent YOY to $27.8 billion.

“This growth is a signal of investor confidence in the sector because acquisitions are underwritten one asset at a time based on the strength of the cash flows in the asset, and not some feature of financial engineering as can be the case with megadeals,” RCA wrote in its monthly US Capital Trends sales report. 

Matt Ferrari, Senior Managing Director of Acquisitions for TruAmerica Multifamily, has seen more individual assets come to market this summer than in past years.

“Usually there is a bit of a lull in August but that does not seem to be the case this year,” Ferrari says. “I will be curious to see how many deals are marketed right after Labor Day as that is usually a busy time of year if sellers want deals to close by year end.”

The YOY decline in large deals is not necessarily a harbinger of bad things to come. In Q2 2017, Starwood bought the Milestone REIT in a $3 billion transaction, setting a high bar to clear. Q2 2018 still posted $6.6 billion in what RCA called “megadeal activity.” By comparison, the second quarter has averaged $4.8 billion in deal volume since 2005.

Many buyers are still aggressively pursuing portfolios.  Jonathan Morgan, President of Morgan Properties JV Management (an affiliate of Morgan Properties), is targeting multifamily portfolio acquisitions in infill, high-barrier markets. "While we initially felt there was a portfolio discount and you could buy wholesale and then sell retail [after value add], today given the amount of capital on the sidelines and the limited opportunities, buyers are paying a portfolio premium for higher institutional quality assets," he says. "We are also seeing a lot of owners refinance rather than dispose of their assets."

With strong deal volume, it is no surprise that apartment prices continued to increase. RCA CPPI, which measures apartment values, said that prices rose 11.6 percent YOY in Q2’18, which was the strongest performance across all commercial property types. 

If the interest rate environment does not grow out of control, Jim Costello, Senior Vice President at RCA, thinks that prices should remain high.

“If the 10-year Treasury hits 3.5 percent, that’s still relatively low. If income is steady, we may not get much of a price change,” Costello says.

While values in RCA’s CPPI rose, cap rates stayed at staggeringly low levels— 100 basis points lower than the average cap rate since 2000. Garden apartment cap rates averaged 5.7 percent in Q2, while mid- and high-rise apartments were 4.9 percent. 

“Stuff is trading, but it is still very expensive,” says James A. Bloomingdale, Senior Vice President and Head of Acquisitions for JRK Investors.

A lack of apartment communities for sale continues to drive price growth. That was especially apparent in what RCA terms the “six major metros.” In those cities— New York, Los Angeles, San Francisco, Boston, Washington, D.C., and Chicago—deal volume was up 13 percent YOY, but there were 18 percent fewer assets traded in Q2 than a year earlier.

With supply waning in some of these markets, it may be even harder to acquire new assets in the years ahead. “The HVCRE [High Volatility Commercial Real Estate Loans] regulations introduced in 2015 changed the metrics for financing a new development but many projects were already in the pipeline,” Costello says. “Now that these have worked their way through, supply will be limited for a bit even with the updates to the HVCRE regulations this year.”

Already, Bloomingdale is finding the environment challenging. “We are actively trying to buy, but it is really competitive,” he says. “I find that we end up being third or fourth on every deal. One of my competitors is pushing [the return limits] on every one of these deals. If we are not going to hit our minimum yield requirements in a hold period, we are not going to push to get a deal done.”