Turning point for apartment industry.

Marcus & Millichap Real Estate Investment Brokerage Company has recently released its 2004 National Apartment Report, which indicates that a healthier economy will allow apartment fundamentals to turn positive but excessive construction will limit the correction in the national vacancy rate.

In addition, the gap between apartment property values and rental market fundamentals will remain due to continued strong buyer demand and modest rent growth in most markets.

Included in the report is Marcus & Millichap's National Apartment Index (NAI), which ranks four Southern California markets among the top five spots.

The NAI is a snapshot analysis that ranks 40 apartment markets nationwide based on a series of 12-month forward-looking supply-and-demand indicators, including forecasted employment growth, vacancy, construction, housing affordability and rent growth.

"This year will mark a turning point for the U.S. economy and the apartment industry," notes Harvey E. Green, president and chief executive officer of Marcus & Millichap.

"An improving job market will bolster tenant demand and set the stage for a new growth cycle in the apartment sector."

"Over the next five years, renter demand will be boosted by a number of factors, including favorable demographics, immigration, the return of jobs and low single-family home affordability," adds Linwood C. Thompson, managing director of the firm's National Multi Housing Group.

"Higher interest rates should be offset by improving property fundamentals, keeping investor demand and capital flows strong."

Following are some of the most significant aspects of the report:

The economic forecast calls for a healthy expansion.

Robust consumption throughout the recession and subsequent recovery has all but eliminated pent-up consumer demand, but business spending will kick in to generate GDP growth in the 4 percent to 5 percent range in 2004. Job growth will rise to 1.0 percent to 1.5 percent, up from 2003's 0.3 percent decline.

Southern California swept the top four spots in the NAI.

Orange County topped this year's index, San Diego the year's runner-up. Rounding out the top five were Los Angeles (No. 3), Riverside-San Bernardino (No. 4), and Fort Lauderdale (No. 5)

Apartment operators can look forward to relief in 2004, but the recovery in market fundamentals will be muted.

Vacancy rates have peaked in most markets and are set to decline in the year ahead, thanks to rising employment and interest rates. Completions declined 5 percent in 2003 and will fall again in 2004, but may begin to rise in 2005 as developers sense demand has entered a new uptrend.

In addition, a 50 basis point decrease in vacancy is forecast for 2004, to 6.5 percent.

Most of the drop will occur in the second half of the year after the effects of an improving job market work their way through the economy. As vacancy eases in 2004, asking rents will rise by an average of 1.5 percent; however, sizable rent growth is not expected until 2005.

Apartment capital flows are likely to remain strong, and prices are expected to remain firm overall.

If interest rates increase in an orderly fashion and fundamentals improve as expected, there will be little downward pressure on prices as buyers will be able to offset some or all of their higher financing costs with improved revenues.

Apartment returns rose to 9.2 percent in 2003 from 8.8 percent in 2002, with most of the gain coming from value appreciation. Income will represent a larger portion of total return in 2004 as vacancy rates fall.

The number of sales rose 4 percent in 2003 after a 20 percent gain in 2003, and prices notched a 14 percent gain in the face of generally weak renter demand as investors bet on better conditions in 2004 and beyond.