The quarterly survey of apartment conditions by the National Multifamily Housing Council (NMHC) is flashing a warning — at least amber, and maybe shifting orange toward red. And not just for housing, but the economy itself: The survey pattern looks just like the beginning of the last two recessions.

  • The bottom of the housing food chain is the rental apartment.
  • The entire remainder of the housing market rests on a foundation of apartment conditions.

The quarterly survey of apartment conditions by the National Multifamily Housing Council (NMHC) is flashing a warning — at least amber, and maybe shifting orange toward red.

And not just for housing, but the economy itself: The survey pattern looks just like the beginning of the last two recessions.

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Why would apartment conditions say so much for housing, and possibly the economy? Think food chain, from plankton to krill to whales.

From apartments to housing

The bottom of the housing food chain is the rental apartment (some would argue that trailers are, but they are a market all by themselves). The entire remainder of the housing market rests on a foundation of apartment conditions.

The rest of the chain, going up from apartments: first the converted condominium. You can buy it and protect yourself from increases in rent, permanently fixing your cost of housing, but it’s still an apartment.

Few people want to buy conversions unless they fear that rents will rise. That’s a crucial mechanism, the transition zone in which rents affect sales prices.

When converted condos rise in price, a whole cohort of those owners suddenly has a significant down payment with which to buy up the chain, and that “found equity” then ripples all the way up the chain.

First to built-as condos, distinguished by their own exterior entrance (instead of the conversion’s long hallway), often a small patio or deck, and units beside you, below or above you, but not surrounding you.

Next up: the “townhouse,” in which, by definition, you own the land under you; these therefore cannot be stacked one on top of another and there is often a garage on the lowest level.

Then detached houses, mini to mansion.

When rents move up, they push prices up the entire chain. When rents move down, or vacancy is plentiful, the whole chain feels it.

Same for the economy, although feedback works both ways: a weakening economy and rising unemployment hurt rents, but weakening rentals can forecast a shaky economy.

So what’s happening?

The NMHC offers some detail in the survey, which may mean that its weak finding has been caused by something odd, and is neither the beginning of a housing nor economic slide. It says the deterioration in apartments is centered in A-quality new construction, and there is still demand for B and C units.

We have built a lot of apartments since the Great Recession, and they are not cheap.

One of the puzzles of the housing recovery has been its steadiness but resistance to ramping up — every previous recovery cycle has enjoyed an upward, self-reinforcing spiral in housing so strong that it has been the cause of the next round of Fed tightening. Not this time.

Explanations? Two of them: land exhaustion and weak household finance.

Most metro areas in the U.S. have run out of developable land. The outer peripheries are too far out (Atlanta), or geographically constrained (by oceans, Seattle and Boston; lakes, Chicago; or mountains, Denver). Thus new housing must be attached, often on re-developed land, and expensive — and besides, most folks would still like a house, no matter how modest.

Households are terribly stressed by the cost of health care and insurance (especially deductibles) and higher education for kids, and many classes of work face income-suppression by global competition or IT effects.

I think those two explanations are better than pre-recession or housing weakness ahead.

However, the steady gains in housing prices in the last seven years at double the rate of income growth…apartment weakness may signal a downshift. Not falling prices, but a slower pace of gains and going flat in spots.

Lou Barnes is a mortgage broker based in Boulder, Colorado. He can be reached at lbarnes@pmglending.com.

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