Developers crunching numbers to make rental pay off.

Last month, Caran Properties Realty executive director, Rebecca Mason, finally managed to convince one of her sellers to take his one bedroom Upper East Side apartment off the market, at least temporarily.

It had joined the many hundreds of city condos now languishing on a market deprived of a buyer willing to pay what are now considered last year's prices. It took just a week to rent for $3,800 a month.

"I've been encouraging some of my clients that renting is the way to go if they have a sale price in mind that they're not willing to reduce to adjust to current market conditions," said Mason, whose firm specializes in both residential brokerage and property management.

"Rather than carrying the property, these owners can now demand top tier rents, even in what would be considered Class B buildings with absolutely no bells and whistles."

Indeed, shifting market conditions have rebounded the rental market to a state not seen in years, where renters are virtually lining up, cash in hand, to get the keys to a rental in any neighborhood.

According to the latest figures from Citi Habitats, the overall rental vacancy rate in Manhattan stood at 0.56% in June, a slight increase of May, but still a figure not seen since the start of the new millennium.

Last month, Citi Habitats staged a special forum of market experts in response to the tight market conditions. Said, Michael Regan, manager of new business development, "The market is beginning to swing and the demand for rentals isn't being met by today's inventory."

In fact, with no sign that developers are about to unleash a plethora of rental buildings on the market, the dearth of product has brokers scrambling to court apartment owners such as Mason's

"We have seen an enormous increase in the number of condo and co-op apartment rentals because owners are holding onto them as an investment and there just aren't enough rental buildings being built to cope with demand," said Daniel Baum, co-president of The Real Estate Group New York.

Baum calculates that, with current returns, Manhattan is unlikely to see many new rental developments any time soon.

"With land prices at $3-400 per square foot and construction costs at $375-$400 per square foot, you would have to charge $4,000 a month for a 600 s/f apartment to break even," he said. "While we're not quite there yet, we are getting there, as rent on a 600 s/f new construction high-rise in Manhattan averages between $3,200 and $3,500 per month."

The only way a developer can turn a healthy profit on a new rental building is to either build on land they have held long-term, or seek out areas where they can win tax abatements, which is what some developers have done outside the city itself in areas such as Hoboken, Jersey City and Newark, New Jersey.

"Even with construction costs what they are, those developers can still turn a good profit," said Bruam.

"If you were building on new dirt, you probably wouldn't be able to make it work," agreed Michael Barry, president of Applied Development Company, one of New Jersey's most active multi-family developers' which has found a profitable niche in rentals.

"We have been an active developer here for a while and have substantial land holdings, so now we have the luxury of being able to build on land we've held for a long time," explained Barry.

These days, according to Barry, land prices are based on condo development and the typical price per unit for the land along the Gold Coast far exceeds a price a rental developer could justify.

Applied currently has 929 rentals already built and leased in trendy Hoboken alone. It started marketing its newest 250-unit Sovereign development there in March and leased up 65% in three months.

"We have a waiting list of people to move in," said Barry on the Hoboken projects where rents have seen a substantial bump from $32 psf last year to $37 this year, almost a third cheaper than Manhattan prices. "We have been leasing up at a tremendous rate and achieving a dollar per square foot far in excess of what we had underwritten."

Barry attributes the surge to a variety of factors. "To a large degree the rental market is benefiting from macro-economics and several years of very low supply. We've seen a strengthening of demand as the economy has done better and, frankly, the Jersey market is attractive in its own right.

"Even though the condo market has been more lucrative in recent years, there are still plenty of developers interested in putting up rentals if they make economic sense and there are rental REITS who are looking to add these developments to their portfolios."

According to the US Department of Commerce, the New Jersey apartment market is one of the strongest in the nation with its rental inventory boasting a 95% occupancy rate, one percent higher than the national rate.

Jose Cruz, senior director of Cushman & Wakefield's Metropolitan Area Capital Markets Group, said the sector's success can be attributed to the state's combination of outstanding location, dense population, high barrier to entry in mature markets and a general inventory undersupply.

The state's demographics bode well for apartment owners, too, said Cruz, who pointed out that more than one third of the state's 3.2 million households rent their homes and pay an average of $1,200 per month--a 25% premium compared to the national average monthly rent of $909.

David Eyzenberg, president of the multi-family and new development lender, Prodigious Capital, said investors are not only looking to buy into rental properties in general, they're zeroing in on rent stabilized properties in particular.

"It's the most recession-proof investment in the country right now," said Eyzenberg, who was among the first investors to start working for hedge funds buying urban infill in the outer boroughs. "These investors have figured out that you can't replace that stuff. With rent stabilization, the rents are artificially low so, even going in at a low yield, you have to come up to meet the market."

He added, "The only rentals you see being built are huge projects--you need a lot of units to get the scale of return--and a lot are being done with 80/20 bond financing [projects financed with the proceeds of tax exempt bonds in return for 20% of the homes being rented to low-income households.]"

While institutional investors are circling their wagons, rental developers are finding it hard to come up with financing for projects that don't have good fundamentals.

Cogswell Realty is among the developers who have been able to achieve just that by developing on cheaper land and taking advantage of various tax abatement programs to build what will be the first market rate apartment building erected in Newark in 40 years.

The firm qualified for nearly $8 million in bonds issued by the state's Economic Development Authority and benefited from the introduction of a creative financing vehicle designed to help municipalities attract new development.

The property, known as Eleven80 because of its 1180 Raymond Boulevard address, is being redeveloped into 317 high-rise rentals that it is hoped with act as a magnet for other developers into the city's central business district.

Arthur Stern, CEO of Cogswell Realty--which also provides third party management and back office services for 2,000 rental apartment in and around Manhattan--said Eleven80 is the first of 3,000 units the company has planned for downtown Newark.

Rents were priced at half those in Manhattan and one third less than Hoboken but, said Stern, with the recent run up in rental rates, the price differential has become even greater. The units have rents ranging from $1,175 per month for a studio to $2,300 for a two-bedroom apartment.

"Land prices here are probably what they were in Manhattan 40 or 50 years ago--we are purchasing land here at anywhere from $20-$30 per buildable square foot--and we are able to offer a project that is equal to, if not better than any of the projects along the Gold Coast or Manhattan."

The company is getting in early to an area it believes is the next frontier of home development. Said Stern, "Newark has a number of attributes that are finally emerging and altering peoples perceptions of the city; it is a major transportation hub, it has become a much safer city, the performing arts center has opened, we have the new [New Jersey Devils] arena and restaurants and stores looking to open here."

He said the next 12 months of the market will be interesting to watch. "There is going to be a tremendous supply of condos being developed and coming to market over the next few months and the test is going to be whether there's enough demand to satisfy all of that supply.

"Some people are predicting there will be over-supply and that we'll see some of those units convert to rentals just to get through the rough patch.

"Whatever happens, whether it's affordable housing initiatives in the city or other second or third-tier locations with good proximity to Manhattan, there's going to be a need to develop some type of housing people can afford, because not everyone can afford the type of rents that are being asked now."

In meantime, many astute investors are partnering with local developers to build themselves a nest-egg outside the city or looking to buy developments outright. Explained Eyzenberg, "They're not going to get a super-high yield, but investors will get a very stable cash flow product that's not going to go anywhere."

Added Cruz, "New rental projects are well positioned for success, supplying new inventory to meet increasing demand."