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Here's Why You Should Hold AvalonBay (AVB) Stock Right Now

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Residential REIT AvalonBay Communities Inc. AVB is expected to benefit from its high-quality assets, located in some of the premium markets of the country, favorable demographics, household formation, recovering economy and job-market growth.

Notably, demographic growth continues to be strong in the young-adult age cohort, which has a higher propensity to rent. This age cohort has also witnessed considerable part of net job growth which is helping spur primary renter demand. Moreover, as interest rates are climbing, owning a home is getting costlier. Several millennials have high student debt, which makes it difficult for them to save for the down payment in order to purchase a house. Therefore, as housing affordability will likely become more challenging in the upcoming period, demand for rented apartments is likely to shoot up.

In addition, the healthy U.S. economy and job-market gains are key catalysts for this industry’s growth. Particularly, corporate profits are up, and corporate tax cuts are encouraging companies to deploy capital and increase wages. As such, consumer confidence is increasing, fueled by job growth and rising wages. This, in turn, is supporting an increase in household formation which may further accelerate demand for rental housing.

Also, per a quarterly update, the company expects rental revenues for established communities in the fourth quarter to be up 2.5-2.6% from the prior-year quarter. The mid-point of the fourth-quarter outlook denotes a 15-basis-point (bp) expansion from what was expected for the quarter when it provided the 2018 established communities rental revenue growth outlook in October. This projection, however, excludes the impact of the five Manhattan communities that are likely to be contributed to a joint venture during the current quarter.

Further, the company provided established communities’ like-term effective rent change for October and November (includes data through Nov 27, 2018). Specifically, like-term effective rent change for both months was 3% in Northern California and 2.4% in Mid-Atlantic. For Metro NY/NJ, like-term effective rent change was 2.9% for November and 2.7% for October. For the company’s overall established communities, like-term effective rent change was 2.3% for November and 2.7% for October.

AvalonBay also has a healthy balance sheet and ample liquidity to support its growth needs. As of Sep 30, 2018, the company had $56.0 million outstanding under its $1.5-billion unsecured credit facility. The company had around $281.6 million in unrestricted cash and cash in escrow as of that date.

Nonetheless, hike in interest rate can pose a challenge for the company. Essentially, rising rates imply higher borrowing cost for the company, which may affect its ability to purchase or develop real estate and lower dividend payouts as well. Furthermore, the dividend payout might become less attractive compared to the yields on fixed income and money market accounts.

In addition to the above, new apartment deliveries are anticipated to remain elevated in a number of the company’s markets in the near- to mid-term. This high supply is likely to put pressure on rental rates. Hence, growth in its stabilized portfolio is likely to remain modest in the upcoming period. There is also high concession activity amid elevated supply, which remains a concern.

In fact, not only AvalonBay, other residential REITS, like Equity Residential (EQR - Free Report) , Essex Property Trust Inc. ESS and UDR Inc. UDR, have been plagued with elevated deliveries in their markets.

Although the prime leasing season this year, i.e. between April and September, was impressive, with demand surging and majority markets reporting solid absorption, the unhealthy environment is unlikely to dissipate any time soon, with aggressive deliveries feared to continue into next year as well. Also, the fourth and first quarters mark slow leasing periods, thanks to the cold weather that inhibits shift of households and limits growth in demand.

AvalonBay currently has a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

The company’s shares have declined 1.2% in the past three months, as against the industry’s growth of 2.7%.

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