As the premier provider of research services and subscription reports, Delta Associates continually has its finger on the pulse of the D.C. commercial real estate market. Will Rich and his team provide the critical market analysis, insights, and consulting services that developers need to make the smartest decisions about creating new projects.
- How Delta Associates defines a “neighborhood” in its research with regards to D.C. regional submarkets. (1:23)
- Insights into how Delta Associates is breaking out its research into separate submarkets for Tysons, Reston, and Falls Church. (3:05)
- Rent per-square foot differences between these three submarkets. (5:33)
- The key drivers for the differences in residential rents between Reston and Tysons. (6:55)
- When the “neighborhood-feel” of the Tysons region will come to life, and what will drive this change. (8:15)
- If/when we will reach the development of enough affordable housing to address the expanding Tysons workforce. (10:30)
- The potential pent-up demand for condos in Tysons, and how this will impact future development. (14:02).
- An overall view of the future softening of the multi-family market in the D.C. area. (17:00)
This podcast is part of the CRE Insider Podcast Series hosted by Ross Litkenhous.
Litkenhous: In your research, you talk a lot about submarkets, and then even get more specific into neighborhoods. I wanted to talk about that in the context of Tysons. But, first and foremost, from your perspective, as someone who is inside the data within these markets, what do you consider a neighborhood and how is that defined in your opinion?
Rich: It depends on the area that you’re talking about. For instance, in the District of Columbia, we have eight different submarkets that we track in the “Class A” apartment report that we produce each quarter. And, some of those geographic boundaries are based on historic neighborhoods within these areas, sometimes there are barriers, like Rock Creek Park, that we can use as a separator between one submarket and another. Anacostia River serves as a natural barrier for some of these other submarkets that we track in D.C. And others are just based on streets that we delineate as the boundaries between certain neighborhoods.
When you get out into the suburbs, most of the submarkets that we have are either based on a county or a city within or Old Town Alexandria, for example, which is a portion of Alexandria. We have that separated out from other submarkets. In Tysons, historically, we haven’t had a submarket for that area because there was limited amount of multifamily development. Most of what was built in the ’80s and ’90s were low-rise guarded style apartments. So we have in our low-rise submarkets, a Tysons submarket that we track along with other submarkets in Northern Virginia.
But over the past few years, we’ve noticed all of the new development that’s happened in Tysons. We have a high-rise submarket that covers a large swath of Fairfax County, which we call North & West Fairfax. This includes anywhere from Reston and Herndon, all the way to Tysons and into Merrifield and Falls Church.
Now that the Tysons submarket has generated nearly 3,000 new apartments over the past several years, I think we are now ready to create a Tysons submarket that’s separate from these other areas of North & West Fairfax County. The dynamics between Tysons and Reston and Falls Church are very different now, so we want to be able to figure out, and track over the long term, how those submarkets are different from each other in terms of rents, vacancy, and occupancy, and absorption of apartments, and the oncoming pipeline in each of those areas.
Litkenhous: You guys breaking out Tysons specifically now from being one of the general contributors to the overall submarket here in the surrounding area? Is it going to be specific to Tysons based on the supply and the market differences?
Rich: Yes. Starting in the fourth quarter of this year (2017), we’re going to have a separate Tysons submarket. We’ll also have a Reston, Herndon, and Falls Church/Merrifield high-rise submarket. The North & West Fairfax submarket will no longer be in existence as of fourth quarter. We’ll have these three submarkets that will take place of that larger area.
Litkenhous: Can you talk a little about those drastic differences between the various multifamily submarkets, such as the rent-per-square-foot differences in the multifamily sectors between Reston, Tysons, and Falls Church?
Rich: Out of the three areas that make up the North & West Fairfax submarket, we find that rents tend to be higher in the Reston area compared to Tysons and Falls Church. For instance, in Reston, rents are anywhere between $2.70 to $3.00 a foot, whereas, in Tysons, we see that rents are a bit lower, anywhere between $2.25 and to $2.85 a foot. In Falls Church, rents are much lower, averaging about $2.40 a foot. So within the North & West submarket, we see some difference between the subsectors.
Litkenhous: What do you think is the primary driver? Is it new supply? Is it just market fundamentals? What’s the big difference between Reston and Tysons, would you say?
Rich: Reston is more of an established submarket, especially within the Town Center area where you’ve got a mix of retail and office and residential. Tysons is aspiring to have that type of mix, and I think over the next several years, you’ll see a dynamic shift where Tysons rents will one day be higher than what you would find in Reston. It’s closer in, it’s the 12th largest CBD in the country.
Once the new roads and other infrastructure are in place in Tysons, and the area becomes more of a walkable, livable community, and all these other factors that come into play into creating neighborhoods, I think that the Tysons area is going to be a more attractive option for renters compared to other places that are a bit further out and as a result, rents will be higher.
Litkenhous: Interesting. So that would be the highest of the three you think?
Rich: Yes. Eventually.
Litkenhous: It certainly seems to make sense just when you think about location and convenience. That idea of neighborhooding and permanency, and the feel, design, that’ certainly going to play a pivotal role. Do you have any idea of timing? I know you and I have talked as well as others involved in the development here about some of the challenges, and you mention infrastructure and roads, and transportation funding as a whole. Do you have any kind of prediction as to when we might see some of the more established neighborhooding and permanency that would drive those higher rents per square foot here in Tysons versus a Reston? 10 years? 20 years?
Rich: It’s not going to happen overnight. It’ll be probably in that 5 to 10-year timeframe when more of these larger-scale projects that are in the planning stages or actually currently under construction, as is in the case of The Boro.
Once those projects come online and some of the infrastructure improvements that are going to planned with those projects, you’ll start to see a little bit more of a neighborhood feel within the different subsectors of Tysons. Because, over time, Tysons is not going to be a monolithic area.
You’ve got four Metro stops within the Tysons area, and each of those stops are going to have a different kind of feel to them. It’s kind of similar to what you see along the Rosslyn-Ballston Corridor where Clarendon has a much different feel than Rosslyn, which is also a lot different then Ballston. So I think over time, you’ll see that the McLean Station development will have a different feel compared to what you find in Tysons and what you find in Greensboro.
Litkenhous: I see and I think that makes sense. I know part of the Comprehensive Plan here was to re-grid Tysons and when you think about what that would take. I certainly think you see some of these grouping and neighborhoods outside of that bigger picture of re-gridding and you could refer to it as monolithic, but that’s a huge challenge and would take place over decades. Seeing that grouping around metro stops I think makes a whole lot of sense. Do you think we are going to reach a point where there’s going to be enough affordable housing units to support the Tysons workforce?
Rich: I think that’s partially addressed in the proffers that the different developers have to pay in order to develop their properties. There’s a 20 percent requirement for affordable housing for the new apartments and condos that are coming into Tysons. So that will partially help with the affordable housing problem, but I don’t believe that will resolve it completely. The problem is not just in Tysons, but also throughout the Metro area. People are moving further and further away in order to be able to afford housing, and I don’t think Tysons alone will be able to resolve that affordable housing problem.
Litkenhous: Do you think the transportation Silver Line Metro taking people further out can help solve that problem to some extent?
Rich: To some extent, it will, but I don’t think it’s a silver bullet.
Litkenhous: Do you think that people need to go back and sharpen their pencils in terms of the requirement of ADUs and other affordable housing in the market or is it kind of yet to be seen?
Rich: I think it’s yet to be seen. Also, I think building different types of housing would help. It doesn’t necessarily have to be ADU units that need to be constructed. You can look at different options like building townhomes or building stick construction that may help with the affordability issue because those construction types are less expensive to build and would allow people who want to live in Tysons have a variety of options. They don’t all need to live in high-rise concrete construction. Some people may want to live in townhomes. Others in a more low-rise community. There are options available that might not just be increasing the ADU requirement, which would place a higher burden on developers to provide those options.
Litkenhous: Do you have a general idea in rent per-square-foot from a percentage standpoint to keep in mind when thinking about the cost to rent between stick-built and steel and concrete?
Rich: Anywhere between 10 and 15 percent is what we see. It depends on the submarket. In D.C., that spread is a little thinner. Out in the suburbs, the spread’s a little wider.
Litkenhous: I feel like that there is a pent-up demand just bubbling beneath the surface for condos here in Tysons and in the surrounding areas. The supply was somewhat of a reflex to what happened in the last down cycle. But do you think that there’s pent-up demand for condos and for development here in Tysons that could be one of the next profitable sectors from a development perspective?
Rich: We’re going to find out real soon because, in 2018, I know of at least three condo projects that are expected to start selling in Tysons. So we’re going from no new condo construction over the past 10 years to three new buildings coming online in less than 12 months. They will probably be in different price points and will target different types of buyers. SO I think we will know the answer to that question very soon.
For example, just outside of it in McLean, there’s The Signet, which I hear is doing fairly well. And with the three new projects that are coming online in 2018 in Tysons, at various price points and different designs that appeal to a variety of buyers.
Litkenhous: Do you have any idea or any indication, on a per-square-foot standpoint, the range that those products are going to go to market?
Rich: I believe that the pricing for existing products that’s maybe 10 years or so old, is selling anywhere between $500 to $600 a square foot. Just the fact that you’re building brand new product and people pay a premium to be in new construction versus something that’s 10 years old. I believe the pricing is going to be north of $650, maybe $750 a square foot.
Litkenhous: Wow. Certainly not affordable necessarily. We’ve had a meteoric rise in terms of the multifamily market, from absorption, delivery, rent growth, cap rate compression in the D.C. market, and it just continues to defy every trend that we’ve experienced. Do you have any indication as to when you think the multifamily market will soften, or we might see some flatter rent growth?
Rich: We’ve been experiencing softer rents for a while now. Metro-wide rents have been below average since about 2011, and that’s around the same time when the development pipeline shot up over 30,000 units.
In Northern Virginia, I would say, of the three sub-state areas, it is expected to fare better than Maryland or D.C. The supply-demand balance is more favorable in Northern Virginia to see rent growth be near the long-term average. In Tysons itself, there are several projects that are currently in lease-up, and another 700 or so units that are under construction and expected to start leasing over the next year or two.
Beyond that, we don’t see many new projects that are pending to start construction anytime soon. So I think with the current lease-up environment that we’re seeing in Tysons, projects are doing quite well. I’ve seen lease-up paces in Tysons anywhere between 18 and 40 units a month. If that pace were to continue for some of these projects, Tysons will be in fairly good shape with absorbing products.
Litkenhous: Interesting. The market is somewhat self-regulated at least this time around?
Rich: Right. Tysons has more products in most of the other submarkets in Northern Virginia. So rental growth there is going to be probably a little bit below average for the Northern Virginia market as a whole. But it likely won’t be flat but will be up a little bit.
Litkenhous: When you look at just overall rent growth and rents achieved, do you factor in concessions as kind of net effective rent or do you track that separately?
Rich: All of our data is net-effective, so we show what the asking rent is for all the submarkets, and then we calculate the effective rent after concessions.
Litkenhous: How are operators in this market reacting to changes to remain competitive?
Rich: We are seeing some of that in the market. Waving the amenity fee is a fairly popular option. That fee can be anywhere between $400 and $500, and that gets waved a lot during the first year. Also, in some cases, communities are using software that prices units on a daily basis. In some cases, it’s a bit difficult to track what the actual concession is because when they use this lease-rent optimizer software to calculate rents one day, the rent could be $2,000 for one bedroom, and the next day, it could be $1,850, but it’s not necessarily calculated as a concession. It’s just based on the supply and demand of those unit types within the building.