In October 2013, Cadillac Fairview shook up the development industry when it announced plans to build a 585-unit, 69-storey tower of high-quality purpose-built rental apartments at the corner of Queen and Yonge in downtown Toronto.
The proposal is the largest single purpose-built rental apartment tower to be built within the Greater Toronto Area in decades. It flies in the face of years of massive condominium developments in the city. Pundits and real estate experts have said that this is a sea-change in Toronto’s development picture; a sign that builders are shifting away from the quick profits of selling condominium developments and eyeing the long-term cash flow offered by high quality rental apartments.
The Cadillac Fairview development is a major change for Toronto, but it is the culmination of shifting economics and demographics that have pushed purpose-built rental apartments to the forefront of the real estate industry. Apartments have outperformed all other sectors in real estate during and since the 2008 recession. This has attracted the attention of investors, and the stage has been set for a construction boom.
How did this happen? Well, the roots of this boom began nearly forty years ago when rent control and overregulation brought new apartment construction to a halt across Canada. Almost no apartment buildings were built between the years of 1985 and 2000 as developers found better returns on their investment in the form of suburban housing developments and, more recently, condominiums. Canada’s apartment stock froze in time, and got progressively older and more dated as the years went on.
Since 2000, however, over 400 new buildings have been built across Canada. This has had much to do with the easing of rent controls and regulations at the turn of the millennium, but the pace has picked up in recent years for a number of other reasons.
The shift to new apartment construction is happening largely because of supply and demand. Rent controls and overregulation depressed supply during the last quarter of the twentieth century, so that apartments didn’t keep up with population growth. More than that, this lack of new supply aged the average apartment stock, so that any new construction that opens today automatically enters at or near the top of the market.
As for demand, in addition to apartments not keeping up with population growth, we are today seeing a shift in the priorities of traditional homebuyers. Young people who used to leave home to buy a house in the suburbs now want to live closer to their jobs, to schools and to amenities. The commutes have become too long, and urban living has become fashionable. As for the baby boomers currently out in the suburbs, many of them are finding their homes too large for their needs.
These factors reduced vacancy rates and increased average rents of current apartment stock, even through the hardship of the 2008 recession. This caught the attention of developers and investors, including pension fund managers and REITs. Another piece of the puzzle was low interest rates. By reducing cap rates and making financing less expensive, these have given developers a great incentive to jump into the purpose-built rental apartment industry.
Finally, the last obstacle to new construction has slipped away. For the past few years, there has been a rush to purchase and renovate older apartment stock to capture the high-end market. A lot of this stock has been swept up in the past few years. This has pushed prices up to the point that, in many centres, it is now cheaper to build a new apartment than to buy an old one.
Will the good times continue? One can not predict the future with absolute certainty, but even if interest rates rise, the underlying factors of low supply and high demand that make apartments so desirable will likely remain for the foreseeable future. Any developer that builds a quality product in a good location will reap great rewards.
The key is knowing which product to build and where to build it. Developers looking to enter the purpose-built rental apartment market must first obtain an impartial feasibility study from experts who know the market. They can provide the critical research and data required to ensure that a developer receives the best return for his or her investment.
Building an apartment building is not like building a condominium. While the opportunity is there for condominium developers to switch to building new apartments, most will need to do their research, and talk to experts, before making the proper changes to their mindset. But that change is coming. The pressure is building for new apartment construction throughout Canada.
Derek Lobo is the founder and CEO of SVN Rock Advisors Inc., a real estate brokerage with over 30 years of experience in helping investors make the most out of buying, selling, and renovating purpose-built apartment buildings. Learn more about SVN Rock Advisors Inc., Brokerage on their website at www.SVNRock.ca.