It depends very much on your geographical location but there are signs the multifamily sector may have peaked – at least temporarily and in certain locations. In primary markets like NYC and Washington D.C., big institutional investors have driven cap rates of return down below 4% in some recent deals. There are even reports some class A properties have been bought for negative cash flow amounts.

Additionally, most everything desirable has been purchased. Where land is available in the primary markets, the big guys are starting to build apartments again. Because land is limited in the major markets, other large investors are expanding into secondary markets like Seattle and Charlotte. There is even some renewed activity for third tier markets in the Mid West. However, these remain focused on class A properties.

Obviously, smaller investors are looking for class B and C properties. On that front, there was a 47% increase in multifamily loan originations in the second quarter of the year compared to the first as reported by the Mortgage Bankers Association. Just as important, up until recently, about the only lenders making loans in this sector where Fannie and Freddie. A significant number of the recent up tick in loan applications were accepted by regional and local banks.

While high-rises dominate the primary markets, garden apartments – low-rise buildings surrounding a common courtyard – saw a dramatic increase in sales volume. These are properties small investors can get into individually or with small partnerships. This sector accounted for a full two-thirds of multifamily transactions in July and May saw a 165% increase year on year.

Here’s where the short-term risk is in multifamily housing. Until development begins with some vigor in this sector, competition among buyers will remains strong – driving higher prices. Forecasts for more development remains very low in primary markets but is increasing in others. The other variable is the shadow market for residential houses. In markets with high foreclosure rates, the shadow inventory has the potential to affect apartment rent rates. Lenders have demonstrated they intend bringing REO onto the market gradually so as not to force prices down further.

However, they need to generate income from these properties. More are beginning to rent REO houses while they wait to bring them on the market. There is even speculation Fannie Mae may begin renting out REO. Places where rental houses compete with apartments could see apartment rents stagnate or even retreat. Almost universally, renters prefer the privacy of a yard and garage over the crowding of apartments.

Because multifamily has been the hottest market during the economic down turn, there is interest in beginning new development. Only 30,000 new units are expected to be added in the 54 major U.S. markets during all of 2011. However, in the first quarter of the year, start permits for multifamily buildings jumped to 70,000 units. Most of these will come on line over the next couple of years. The industry has a long history of over building and then waiting for demand to catch up. This is the other potential to begin applying downward pressure on rents that have steadily gone up all year.

What is going on with multifamily is vey specific to location. The primary markets have clearly driven purchase prices above what most investors are willing to pay based in revenues returned. However, the rental market will remain strong for years to come. How it works out in your town or city will likely be driven by new development and REO being converted into rental houses.