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Earthquake in SF Apartment Prices

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By LanRes
October 19, 2009

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Destruction of multifamily prices in the SF area is mostly the result of the dissolution of the Lembi family apartment holdings. See below. One bad player with way too much debt.

The Lembi situation doesn't help the local market, of course, but it wasn't the cause of the steep decline in SF Bay Area apartment property prices we've witnessed since early 2008. Local investors have long dominated the Bay Area apartment market, frustrating the plans of many institutional investors to increase their portfolio exposure there. For one, not that many "institutional-quality" apartment complexes trade in the Bay Area, even in strong economic environments. Local investors hold onto the properties they've acquired, as they have been attractive long-term investments.

More importantly, local investors for many years were quite happy with skimpy 4.5% to 5% yields, while that type of rich pricing worries (most) institutional investors. A 100 basis points increase in cap rates from 4.5%, ceteris paribus, reduces the property value by 18.2%, whereas a 100 bps increase in cap rates from 6.0%, reduces the property value by 14.3%. It took a long time for many institutional investors just to get comfortable with cap rates as low as 6% (with historical cap rates in the 7.5% to 10% range still in their memories), and buying an apartment complex at 4.5% (or lower) was especially hard to justify for anyone who has been around during a couple of market cycles.

Now apartment property cap rates in the SF Bay Area are generally in the 6.25% to 6.75% range, with few sales to fully confirm that perception. The 200 bps rise in cap rates alone has reduced property values by around 30%, with weakness in occupancy rates and rents acerbating the price decline.

Give that type of "re-pricing" by investors, the sale prices of the Lembi properties isn't surprising, and actually suggests that local investors are ready to add a property or two to their holdings. Not all local investors are highly leveraged.

That said, thanks for the link to the Lembi article.

Here's an interesting article about the Lembi family from 2005, and another link to the CB Richard Ellis Multi-Housing Group website's research page. The cap rates survey is very helpful, the market monitor is pretty good, and the audio regional forums are perhaps the best (ignoring the occasional marketing pitch). Bill Huberty, who is often the host for the California/Pacific Coast regional forums, was a real estate student of mine at UW-Madison, so I sometimes find myself "grading" the quality of his insights. Fortunately, he usually earns an "A", as do most of the speakers in these forums.

"The Sky's the Limit
Frank Lembi owns rental units galore in SF and he and his family are shopping for more" (April 1, 2005)

CBRE Multi-Housing Group research