AvalonBay Communities Q4 2021 Earnings Call Transcript

Participants

Corporate Executives

• Jason Reilley, Vice President of Investor Relations
• Benjamin W. Schall, Chief Executive Officer and President
• Sean J. Breslin, Chief Operating Officer
• Kevin O'Shea, Chief Financial Officer
• Matthew H. Birenbaum, Chief Investment Officer

Analysts

• Nick Joseph, Smith Barney Citigroup
• Rich Hill, Morgan Stanley
• Rich Hightower, Evercore ISI
• Austin Wurschmidt, KeyBanc
• John Kim, BMO Capital Markets
• Chandni Luthra, The Goldman Sachs Group, Inc.
• John Pawlowski, Green Street
• Rich Anderson, SMBC
• Joshua Dennerlein, Bank of America Co.
• Alexander Goldfarb, Piper Sandler Companies
• Haendel St. Juste, Mizuho
• Michael Bilerman, Smith Barney Citigroup

Presentation

[Operator]

Good morning, ladies and gentlemen, and welcome to the AvalonBay Communities Fourth Quarter 2021 Earnings Conference Call. [Operator Instructions] Your host for today's conference call is Mr. Jason Reilley, Vice President of Investor Relations.

Mr. Reilley, you may begin your conference.

[Jason Reilley, Vice President of Investor Relations at AvalonBay Communities]

Thank you, Anita, and welcome to AvalonBay Communities Fourth Quarter 2021 Earnings Conference Call. Before we begin, please note that forward-looking statements may be made during this discussion. There are a variety of risks and uncertainties associated with forward-looking statements, and actual results may differ materially. There is a discussion of these risks and uncertainties in yesterday afternoon's press release as well as in the company's Form 10-K and Form 10-Q filed with the SEC.

As usual, this press release does include an attachment with definitions and reconciliations of non-GAAP financial measures and other terms, which may be used in today's discussion. The attachment is also available on our website at www.avalonbay.com/earnings, and we encourage you to refer to this information during the review of our operating results and financial performance.

And with that, I'll turn the call over to Ben Schall, CEO and President of AvalonBay Communities, for his remarks. Ben?

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Thank you, Jason, and thank you to everyone for joining us on the call today and for your engagement. Kevin, Matt, Sean and I will provide some initial commentary, and then we will open the session up for questions. I want to start by thanking the AVB associate base, 3,000 strong, for all their contributions throughout 2021. Thanks to your commitment, we produced strong business results and embarked on our next phase of growth by ramping up our development and investment activity, all while navigating the challenges presented by the pandemic.

Thank you especially to everyone working on-site, at our communities and construction projects and to our human resource teams for all you do to support each other, serve prospects and residents and build for our future. Turning to the presentation. Slide four provides a summary of our success and strong finish to 2021. On the operating side, in the fourth quarter, we delivered a 12.4% increase in core FFO and a 4.7% increase in same-store revenue. On a cash basis, same-store revenue increased 8.3%.

This momentum continues in the new year as we build on our strong operating foundation with healthy occupancy levels, low resident turnover and strong embedded revenue growth. We also successfully ramped our investment activity in 2021 with almost $2 billion of new development starts and acquisitions and with the bulk of this capital funded by dispositions and incremental debt financing at a historically low cost of capital. In an otherwise low-yielding environment, our development capabilities allow us to generate significant value and meaningful incremental NOI growth on top of the internal growth generated by our operating portfolio.

As shown on slide five, we completed $1.1 billion of projects in 2021 with an expected $65 million of new NOI upon stabilization. At a development yield of 6% and with a 230 basis point spread to an estimated market cap rate of 3.7%, these communities have created $650 million in value. That's a very robust 60% value creation margin. As Matt will describe further, we expect to start an additional $1 billion to $1.250 billion of development projects this year at projected yields of 5.5% to 6%, and we control a growing development rights pipeline, which will set the stage for continued accretion and value creation from our development platform for many years to come.

As we continue to invest and grow, we're also optimizing the earnings growth and long-term value of our existing portfolio. A large component of this optimization is the selling of older assets with slower growth profiles and redeploying that capital into our expansion markets. During 2021, as highlighted on slide six, this led to our acquisition of $725 million of assets with an average age of three years at a 3.8% cap rate and the disposition of $865 million of assets with an average age of 26 years at a 3.7% cap rate. The bulk of our acquisitions were, and will continue to be, in our expansion markets, which, over time, across Southeast Florida, Denver, Austin, Dallas, Charlotte and Raleigh-Durham, we see us having the potential to grow to become 20% to 25% of our portfolio through a combination of development and acquisitions.

These expansion markets share many of the same characteristics as our established markets, including concentrations of knowledge-based workers and strong housing fundamentals. They also provide portfolio diversification and increased exposure to longer-term population shifts. Still, most of our portfolio and new development capital in the long term will be in our established markets where we have a high-quality portfolio of assets situated in regions that we believe will continue to thrive as vibrant centers of innovation, education, technology and with strong job and income profiles and in regions where we continue to leverage our long tenure with some of the strongest operating and development teams in the multifamily industry. Turning to slide seven.

We continue to make significant investments in technology and innovation as we evolve our operating platform in order to provide enhanced value to prospects and residents while achieving operating efficiencies and driving new sources of revenue. We've generated approximately $10 million of incremental NOI from our initiatives already deployed and are about 1/3 of the way to delivering our target of 200 basis points of margin improvement or $40 million to $50 million of NOI to the bottom line.

Finally, I want to emphasize our continual investment in our people and our leadership in ESG. Starting with ESG, our goal is to keep AvalonBay on the forefront as a leader in sustainability and corporate responsibility in an area of increasing importance for our residents, associates and investors. As an output of this corporate leadership, we have been recognized by various entities as ESG leaders, as shown on slide eight, and including the NAREIT Leader in the Light Award as the top-ranked multifamily REIT for ESG leadership.

And most importantly, we continue to invest in our people and our culture. AvalonBay is an amazing place because of its people, and we're extremely focused on fostering an inclusive and diverse culture that attracts, retains and provides growth opportunities to our people. We're excited for the year ahead, are fortunate to have a deeply dedicated team of associates, and we entered the year with our foot forward and in growth mode.

With that, I'll turn it to Sean to talk further about our operating results and tailwinds heading into 2022.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

All right. Thanks, Ben. I thought I would share a few slides on recent portfolio rent trends, both overall and across different markets and submarkets. Starting on slide nine. 2021 was a pretty unique year. In the first half of the year, we experienced not only a significant recovery in our business, but the average move-in rent grew fast enough to exceed pre-COVID peak rent levels by midyear. In the second half of the year, the combination of lower turnover, which was down 20% year-over-year, 11% below pre-COVID levels and the lowest we've seen in 10 years, along with healthy demand, resulted in rents-defined seasonal norms by growing into September and then flattening through year-end.

Historically, we see rental rates peak in July and August and then decline in the low single-digit percentage range through year-end as represented by the dash line for 2019. For the calendar year 2021, the portfolio average move-in rent grew by 23% and at year-end exceeded 2019 levels by about 9%. Moving to slide 10. Improved performance has been broad-based with every region experiencing a significant increase in average move-in rent over the past year. Average move-in rent in New England increased by 30% during 2021, the highest of our established regions, and ended the year about 10% above pre-COVID levels.

Improved performance in Boston has been supported by healthy job growth across various industries, most notably biotech, and reduced apartment deliveries in both urban and suburban submarkets. In addition, for a region that's typically more seasonal, given the weather patterns, it's quite unusual to see rents flatten out in the last quarter of the year versus decline. That's a sign of a pretty strong market. In Southern California, the average move-in rent grew by 23% during 2021 and at year-end was 21% above 2019 levels, the highest of our established regions. Performance has been supported by solid job growth, particularly in the content-producing sector of the economy in L.A., the lowest level of new multifamily supply of any of our regions at 1.1% of stock and a very tight single-family market.

At the other end of the spectrum, Northern California continued to lag the portfolio due to major tech employers delaying their return to the office, impacting the reopening of other businesses and the general quality of life in the region. While the average move-in rent increased by 15% during 2021, at year-end, it was still roughly 7% below pre-COVID levels. While the region has lagged in the recovery, we could see a very meaningful increase in move-in rents in 2022 when a greater percentage of the workforce, particularly the tech segments that have experienced very robust wage increases in the past couple of years, go back to the office. The Mid-Atlantic, New York/New Jersey and Pacific Northwest regions all delivered a 20% to 25% increase in average move-in rent during 2021.

The Mid-Atlantic ended the year with rents that were about 5% above 2019 levels, while the Pacific Northwest and New York/New Jersey regions were trending at roughly 10% ahead of 2019 levels. Turning to slide 11 to address suburban and urban performance trends. The average move-in rent for our suburban portfolio increased by roughly 20% during 2021 and was approximately 13% above 2019 levels at year-end. In our urban portfolio, while the average move-in rent increased almost 30% during 2021, it was essentially at 2019 levels by the end of the year. Urban markets with rents still below 2019 levels include San Francisco at about 17% and Washington, D.C. at roughly 3%. In contrast, rents in New York City are currently about 4% above 2019 levels.

With office utilization rates in the high teens in the San Francisco Metro area and low- to mid-20% range in both New York City and Washington, D.C., we should continue to see a meaningful improvement in demand in our urban submarkets as a greater percentage of the workforce is called back to the office. We've seen increasing signs of that demand returning. In Q4, our urban portfolio experienced about a 30% increase in the share of move-ins from more than 150 miles away as compared to pre-COVID norms.

In markets like New York City and San Francisco, the share of move-ins from greater than 150 miles away increased by roughly 50% compared to historical norms. Similar to long distance, move-ins are occurring in our suburban portfolio as well, but the increased share is more like in the 20% range. Finally, moving to slide 12. The improvement in rent levels has translated into strong like-term effective rent change. We averaged 11% rent change in Q4 2021 with October and November in the high 10% range, followed by December at roughly 11.5%.

The positive momentum continued into January with rent change of roughly 12.5%. Importantly, we experienced a meaningful increase of rent change across six of our eight regions in January. And overall, we're starting the year from a position of strength. January occupancy averaged 96.4%. Asking rents have increased 1.5% since the first of the year, and we're seeing early signs of continued low turnover in an environment with very healthy rent increases.

With that operating summary, I'll turn it to Kevin to address our full outlook for 2022. Kevin?

[Kevin O'Shea, Chief Financial Officer at AvalonBay Communities]

Thanks, Sean. Turning to 2022. Apartment fundamentals in our established markets remain highly attractive. On slide 13, we show just how strong they are by providing data on some key trends, including strong job and wage growth for the professional services sector, which includes our target renters; the opportunity for further gains in office utilization from today's low levels; rising single-family home prices, which support rental demand; and the relatively stable outlook for new apartment deliveries in our markets. On slide 14, we provide our financial outlook for 2022.

For the year, we expect robust growth from both our same-store portfolio and from stabilizing development to drive nearly 16% growth in core FFO per share at the midpoint of our guidance of $9.55. In our same-store residential portfolio, we expect a continued rebound from the pandemic in our urban markets and continued economic momentum across our entire portfolio. Using the midpoint of guidance, we project same-store residential revenue will increase by 8.25% based on growth in our urban portfolio in the low-10% range and growth in our suburban portfolio in the low- to mid-7% range. We project same-store residential operating expenses will increase by 4.75%, primarily due to cost pressure in a couple of categories, initiatives being deployed and some onetime benefits in 2021 that are not present in 2022.

As for cost pressure, we're experiencing this primarily in two areas: first, in utilities as a result of very favorable supply contracts for commodities that expired late last year; and second, in property taxes, resulting from successful appeals in the prior year period and the expiration of certain pilot programs in New York, which will burn off over the next few years but, at the same time, allow us to exit rent stabilization and achieve full market rents on most of those communities over time. Among our various initiatives, we started to deploy our bulk Internet and smart access offering, which will create a year-over-year expense headwind of about 50 basis points in 2022 but is part of the strategy to deliver a net profit of more than $30 million when this is stabilized over the next few years.

And lastly, we realized some onetime benefits in 2021, including a payroll tax credit in Q4, that are creating about a 30 basis point headwind to opex growth in 2022. As a result, we expect same-store residential net operating income will increase by 10% in 2022. For development, we expect to continue to generate earnings and NAV growth from stabilizing developments and to continue investing heavily in this differentiated capability, as you could see here on the slide. For our capital plan, we project external capital sources of about $900 million from asset sales, foreclosure sale activity and capital markets activity. For our capital uses, we expect to deploy about $1.2 billion towards development, redevelopment and debt maturities in 2022.

Finally, in our earnings release, we have also provided earnings guidance for Q1, for which, at the midpoint, we project core FFO per share of $2.20 in the first quarter or about $0.07 lower than in Q4. This sequential earnings decline is driven by several items, including opex increases in utilities, property taxes and payroll, including the previously mentioned payroll tax credit in Q4; overhead increases due to compensation adjustments and strategic initiatives; and NOI decreases from net disposition activity in Q4. On slide 15, we illustrate the components of our expected 15.6% growth in core FFO per share.

Most of our growth, specifically at $1.02 per share, is expected to come from NOI growth in our same-store and redevelopment portfolios. About 1/3 of our earnings growth or $0.44 per share is due to NOI from investment activity, which, in turn, is primarily from development. Modestly offsetting these sources of growth is a combined increase of about $0.17 per share from capital markets activity and increases in overhead. On slide 16, we show the key components driving our expected 8.25% overall increase in same-store residential revenue, including our expectation for a strong increase in lease rates, a favorable impact from a lower level of amortized and newly granted concessions, an increase in other rental revenue and a modest improvement in underlying uncollectible lease revenue, which we expect will remain elevated in the first half of 2022 before slowly improving in the second half of the year.

However, we are assuming a year-over-year reduction of about $18 million in recognized rent relief collections from the Emergency Rental Assistance Program, which results in about a 90 basis point headwind to our projected full year residential revenue growth rate. Moving to same-store residential revenue trends across our markets on slide 17. Our expansion markets of Denver and Southeast Florida are expected to lead the portfolio revenue growth in 2022, followed by the Pacific Northwest. For the reasons Sean mentioned earlier, we expect Northern California to trail the portfolio average. However, it's a region with the history of upside down cycles followed by robust recoveries. So we could be favorably surprised by actual performance in Northern California as we move through the year.

And with that, I'll turn it over to Matt to discuss our plans for future development activity.

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

All right. Great. Thanks, Kevin. On slide 18, you can see that we're continuing to ramp up our development activity in response to these favorable market conditions. We have been starting roughly $1.1 billion of new development per year most of the prior cycle before sharply curtailing new investment activity as COVID hit in 2020. We've been able to shift gears aggressively last year, getting back to an annual starts level of roughly $1.2 billion and expect similar volume this year. And this development continues to be very profitable with current development underway, underwritten to an initial stabilized yield of 6%.

With cap rates in the mid-3s, this puts us on track to extend the tremendous value creation margin Ben mentioned on our 2021 completions. In the pie charts on the right, you can also see how market performance and our portfolio allocation priorities are reflected in our recent starts activity with 90% of the 2021 and 2022 starts in suburban locations and a broad geographic mix, including more than 20%, in our expansion regions. As we accelerate our starts activity, our regional development teams have also been focused on backfilling the development rights pipeline to generate the next set of investment opportunities for 2023 and beyond. As shown on slide 19, we have future development sites under control across all of our regions and have seen a marked increase in pipeline activity in the past few quarters.

The projects shown on the slide here represent $2.6 billion of future starts activity over the next two to three years and exclude some of our longer-term densification opportunities at existing assets, which brings our total development rights pipeline to $3.3 billion at the end of 2021. And we've been even more active so far this year with an additional $700 million approved by our Investment Committee just in January and more on the way, including our first development right in Austin, Texas. This activity puts us on track to exceed $4 billion in development rights by the end of the first quarter.

And with that, I'll turn it back to Ben.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Thanks, Matt. As you've heard on the call today, we're entering the new year from a position of strength on multiple fronts. And to close, I want to emphasize five key themes that will guide us in 2022 as we seek to generate outsized value and earnings growth and as we continue to differentiate ourselves as one of the leading real estate companies in the country. First, our decades-long track record as a leading developer with deep market knowledge and experience across the breadth of communities and apartment styles allows us to create value by tailoring each development to best fit the needs of the local area as well as continuing to meet the evolving needs of residents. It also drives meaningful incremental earnings and NOI growth across cycles.

Second, as we grow, we are optimizing the earnings growth and value creation potential of the existing portfolio by pruning slower-growth assets and diversifying into new markets, providing an expanded domain to create value through our development, operating and strategic capabilities. Third, our operating model is set to deliver meaningful earnings growth by utilizing technology and investing in innovation to improve operating margins and to unlock additional revenue opportunities.

Fourth, we will continue to lead on ESG, an area increasingly important to municipalities as we seek development approvals, to residents as they make housing decisions and to our associates as we meet our mission of creating a better way to live. And lastly, at the center of all that we do, we'll continue to foster our evergreen culture and invest in our people. We look forward to our engagement with shareholders and stakeholders on these themes and others during the year.

With that, I'll turn it to the operator to facilitate questions.

Questions and Answers

[Operator]

[Operator Instructions] We'll take our first question from Nick Joseph with Citi. Please proceed.

[Nick Joseph, Analyst at Smith Barney Citigroup]

Thank you. I appreciate all the color. I guess maybe starting on the portfolio optimization and the target of 20% to 25% in the expansion markets. What's the expected timing of actually getting there?

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Yes. Thanks, Nick. I would continue to look at our growth in Southeast Florida and Denver as a good proxy. We've been active in those markets over the last three to four years. We have a target for each of those markets of about 5%. And we're about halfway through. Increasingly, we've got our people on the ground there. Our development activity continues to source additional opportunities. And the hope is that we can accelerate from there in those two markets. So when you look to our next set of expansion markets, I would expect them to move on a similar type of time frame over the coming years.

[Nick Joseph, Analyst at Smith Barney Citigroup]

Thanks. And I guess, another timing question. In terms of the 200 basis points on the margin expansion opportunity, I think you mentioned you're 1/3 done. When would you expect that 200 basis points to be in the run rate?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. Nick, this is Sean. It is a multiyear process. It's going to take us a few years to work through everything, but we're making steady progress. So I'd say let's talk about it over the next 36 months to 48 months. It's in the ballpark to work through all of it.

[Operator]

We'll take our next question from Rich Hill with Morgan Stanley. Please proceed.

[Rich Hill, Analyst at Morgan Stanley]

Hey good afternoon guys. I'm sorry if I missed this, but could you confirm the loss to lease in the portfolio as of January?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. Rich, it's Sean. It's trending at 12%.

[Rich Hill, Analyst at Morgan Stanley]

Okay. Great. And so maybe just going back to some of the timing questions. If I heard correctly, it sounds like your leases are 23% higher than where they were this time last year, give or take. But your leasing spreads are really strong but not at 23%. Does that mean that you're not capturing all the loss to lease and some will bleed into 2023? Or how should we think about that?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. So just to clarify a couple of things. The 23% represents the move-in values at the end of the year as compared to the beginning of the year, not all of the leases in the portfolio being up 23%, if that makes sense. On the loss to lease side of it -- okay. Okay. Good. On the loss to lease side, like I said, it's 12% today. As I think I mentioned on the last call, about 1/3 of the portfolio at this point in time is constrained, but various things, the rent regulations in New York City, there's a couple of COVID overlay issues out there, etc.

So what's really achievable today, if you just mark everything in the market, is, call it, 8%. So how will that manifest its way through the portfolio will be as leases expire throughout 2022 and we're able to move people to market. So that's how things will slowly lead in. So if you're trying to understand sort of the pace of revenue growth given that phenomenon, then we do expect revenue growth will accelerate as we move through the year because all those leases are being mark-to-market as they expire.

[Rich Hill, Analyst at Morgan Stanley]

That's very helpful. And so maybe just framing the debate here a little bit on your guidance range. Can you maybe give us a little bit of color as to what assumptions are driving to the high end to the -- versus the low end?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. I mean there's a number of different factors that play into that, that we could spend some time on. Obviously, Kevin talked about what we're seeing in terms of -- or what we expect in the way of bad debt trends being modestly positive. But then we have a drag from rent relief, and he also pointed out, those two variables could swing one way or another. And we're expecting an improvement in underlying bad debt in the second half of the year that could accelerate, which gives us a little extra juice.

Rent relief could also accelerate but could also go the other way. It's a pretty unpredictable factor. And then obviously, you have the normal things that we talk about in terms of turnover where it occurs. Is it in markets that are currently regulated that we can get people to market, how fast is market rent growth as we move through the year. So there's all those normal factors that we would expect, in addition to the unusual factors in the current environment.

[Rich Hill, Analyst at Morgan Stanley]

Okay. Got it. And the -- just you didn't mention anything about development, and I appreciate the range that you gave for NOI contributions, but is there -- that's -- it's -- it was higher than what we were expecting, which is obviously a good thing. Anything that you're looking for in development that would make you more bullish or bearish?

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

Rich, it's Matt. I mean as it relates to the 2022 earnings, that's more or less the die is cast at this point. There's not going to be huge variations in that number because those are deals that are already under construction and, in many cases, have already started leasing. So the variability there would be around what is the actual lease-up pace and rate, does it do a little better or a little worse than what we've projected. But the bigger place where it will start to move the needle more materially in the out years would relate to starts that might happen this year, so.

[Operator]

We'll take our next question from Rich Hightower with Evercore.

[Rich Hightower, Analyst at Evercore ISI]

Hey good afternoon, guys. Just to follow up on that development question really quick. Just it's a little bit of nitpicking, but I guess, the midpoint of the starts forecast for 2022 is a little bit less than what occurred in 2021. Is there a reason for that? Is it timing? Is it something else that we're not aware of?

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

Yes. Rich, it's Matt. It's just these deals are lumpy and they -- one deal happens to start in December versus January or February that can change the number kind of on any particular period of time you want to take rolling four quarters or calendar year. So I would tend to look at it more kind of on a two-year basis, which is why that's the way we presented the slide. You think about 2021 and 2022 together, $2.3 billion, $2.4 billion worth of starts. And again, we're looking to accelerate that. And hopefully, 2023, we do even more.

[Rich Hightower, Analyst at Evercore ISI]

Okay. Perfect. And then I appreciate the detail around the sort of the composition of the same-store revenue outlook. Within that -- I don't think it was mentioned, but do you -- what are you baking in for sort of your underlying market rent growth assumption within all that sort of separately from just what's baked in already and so forth?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. It's reflected in the bar that Kevin identified on the slide, Rich. If you take a look at that, that includes -- it's basically a confluence of different pieces, the very first bar on the lease rates. It reflects sort of the embedded piece, how much of the loss to lease you can capture as well as the effective change you might see in rents as we move through the year. So all of that is embedded in that number.

[Rich Hightower, Analyst at Evercore ISI]

That's all in that first bar then, in other words?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Correct. That is correct. Yes.

[Operator]

We'll now take our next question from Austin Wurschmidt with KeyBanc.

[Austin Wurschmidt, Analyst at KeyBanc]

Great thanks everybody. Sean, just curious based on what you saw in urban markets in the fourth quarter sort of bucking seasonal trends, do you expect this -- have you seen it continue? Do you think it can continue into 2022? And what did you guys assume in your guidance? Did you assume that it's just more typical demand trends? And just any thoughts there would be appreciated.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

In the urban markets, specifically, you're talking about, Austin?

[Austin Wurschmidt, Analyst at KeyBanc]

Yes, correct. You referenced, I think, 50%-or-so upside versus what you've seen historically in New York and San Francisco and then 30% increase I think.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. We started to see that occur in Q2. It certainly accelerated as we get into Q3 and Q4 in terms of the percentage of move-ins coming from more than 150 miles away. I suspect, and I haven't looked at the full data for January, it may have slowed a little bit just given Omicron. But I think our belief is that we're going to continue to see a steady improvement in places like New York City, D.C., San Francisco as more people are brought back to the office. We don't think office utilization is going to go back to exactly where it was pre-pandemic. I don't think most people do. But if you're in the high teens to low-20% range, trying to go to 70% utilization, you'll still triple what it is today.

So we do expect to see improvement across those markets as we move through the year as well as some of these jobs in our suburban locations that have sort of the same thing going on, which should be like a Tysons Corner here in Northern Virginia, as an example. So we do expect healthy performance out of those markets as we move through the year. And we've seen that begin, and the trend should continue. What's a little hard to tell is the exact pace. And that's why Kevin made the comment that Northern California is still expected to trail the portfolio average for revenue growth. But it is a market that could surprise to the upside, and we just have to wait and see.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Austin, in addition to the...

[Austin Wurschmidt, Analyst at KeyBanc]

Yes. No, that was for my follow-up...

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Sorry, I was just going to add. In addition to the comments that Sean -- the drivers that Sean referenced, you also just have overall job growth, right? When you look at the overall job growth relative to pre-COVID levels in our urban markets, yes, we continue to think that there's some pretty meaningful room to run there and will serve as a decent driver.

[Austin Wurschmidt, Analyst at KeyBanc]

Yes. That makes a lot of sense. And Sean, you had started to hit a little bit on my follow-up there. So how did you go about, I guess, underwriting same-store revenue growth for Northern California? What pace did you assume? Or how should we think about what's currently underlying that range?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. I mean the way I would think about it is kind of three pieces. I could give you a rough road map. First is obviously what's embedded, which is easy in terms of where leases are today in January compared to where they were basically on average for 2021. And then you've got the loss to lease component, which is easy to compute. And then you have what you expect in terms of market rent growth. The third piece is the one that's most uncertain. So we can see where we're moving people in today in the last quarter as an example.

And so we can assume that as leases expire, moving through the year, we should be able to achieve at least that level. And then we have some modest growth built in beyond that based on a slow pace in terms of the return to office. But as Kevin mentioned earlier, things could accelerate there. It's just hard to put your finger on it as to how much incremental demand will show up, when it will show up and how much it will drive performance in 2022. For the most part, you need to see a meaningful increase in that demand and in market rents in the first half of the year for it to lead to revenue in 2022. Once you get to the second half, not as many lease expirations, etc, etc.

[Austin Wurschmidt, Analyst at KeyBanc]

But it should begin to converge versus other markets, most likely towards the back half of the year given comps otherwise and then this potential lift that you kind of spoke to from demand coming into the market. Is that fair?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

When you say converge, converge relative to what?

[Austin Wurschmidt, Analyst at KeyBanc]

Either blended lease rates slowing in other markets due to more difficult comps, whereas Northern California has certainly lagged, as you guys highlighted, and then it starts to accelerate either as others decelerate or it's catching up, I guess.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

It's certainly a possibility. Yes, that is a possibility. Yes. I mean one thing you have to realize is that the leases that were signed in the first half of 2021 still had fairly decent concessions. Rents were much lower than where they are. So you're going to see pretty good effective rent growth in that market in the first half of the year. The second half will be dictated by some of the factors that I mentioned as it relates to demand.

[Operator]

We'll now take our next question from John Kim with BMO Capital Markets.

[John Kim, Analyst at BMO Capital Markets]

Good afternoon. Can you just clarify the relationship between move-in rents and your effective rent growth? So theoretically, if you had -- or hypothetically, if move-in rents were 23% above for the remainder of the year, would your effective rent growth be 23% once the pace catch up?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Not necessarily for some of the factors that I mentioned earlier, John. I mean you've got -- those are strictly move-in rents, which, given turnover rates, just call it, roughly 50%, there's also renewals. And there are -- as I mentioned earlier, when I was talking about loss to lease, there are constraints on renewals in a number of our markets. Some are normal, like the rent regs in New York. Some are sort of this COVID overlay, but it impacts about 1/3 of the portfolio. So you can't effectively assume that you're going to mark everyone to current move-in rent values over the next 12 months as leases expire.

[John Kim, Analyst at BMO Capital Markets]

So is that move-in rent always going to be higher than your effective rent growth? Yes. I mean I think part of it is timing. Part of it is other frictional factors. But I'm just wondering if the move-in rents always appear higher than the effective rent growth that you achieved.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. I mean you've got -- there's a number of different factors that feed into it. I mean you've got a lag. So again, move-in rents for -- as of the moment in time, we're talking about December versus January being up 23%. That was for that batch of move-ins during that period of time. And so you got sort of the two endpoints. So there's a lag in terms of what asking rents are and then people move in. There's typically a lag there. You've got a lag because of renewals. But in theory, to your original question, if there were no constraints and no lag and you can mark 100% of the rent roll to market on February 1, yes, you would see a significant move in the average rent -- lease rent for the portfolio.

[John Kim, Analyst at BMO Capital Markets]

Okay. That's helpful. And a question on your development starts, which this year are predominantly are 90% suburban. Is this your view of where secular trends will continue, suburban versus urban? Or do you see urban development picking up after this year?

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

John, it's Matt. Yes, I think last year was also -- our starts level was also certainly at least 80% suburban, if not 90%. So I think it will still be a while. For us, when I look at our development rights pipeline, I expect that our starts will continue to weigh pretty heavily suburban over the next couple of years. That is where we're seeing better economics in terms of, obviously, rents have recovered a lot more there, as Sean's data showed. And also that tends to play to our strengths because the suburban submarkets are more supply-constrained. Actually, entitlements are more difficult to get there. So we like the risk return profile there. The market as a whole, I think in our established regions, you probably will see far fewer urban starts not just from us but in general. In our expansion regions, there's a lot of urban start activity going on as well as suburban.

[Operator]

We'll now take our next question from Chandni Luthra with Goldman Sachs.

[Chandni Luthra, Analyst at The Goldman Sachs Group]

Hi thank you for taking my question. So I wanted to talk about that development pipeline and your development starts for 2022. If you kind of go back in the last cycle, you were averaging about $1.4 billion in development starts sort of through that, I think, 2014, 2015, 2016 period. How should we think about development starts with the pipeline that you have today? I mean looking out, will there be a big step function change as we think about the next couple of years?

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

It's Matt, Chandni. I can take a shot at that, and then I don't know if Kevin may want to weigh in as well or Ben. But yes, I mean, we -- last cycle, we did ramp it up coming out of the GFC. And then there were a couple of years there where we were running at that level you described. I think over the course of the six or seven years, it was more like $1.2 billion. But we're a bigger enterprise now, and costs are up. So even on an apples-to-apples basis, to do that much volume in the current environment, that's probably more like $1.5 billion, $1.6 billion a year in starts. And if we can find those opportunities, and we're feeling pretty optimistic based on our current book of business and the pipeline that we're seeing, we're certainly ready and prepared and look forward to the opportunity to be able to continue to grow it.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

I'd add, John. The other part is the tie-in with our expansion markets, right? And so part of that move provides an expanded opportunity set there. And so early on, we're going through a combination of acquisitions, funding of other developers and our own development, but that pipeline will also start to accelerate. And so you look a couple of years out, yes, we expect the overall development pipeline to continue to grow in size.

[Kevin O'Shea, Chief Financial Officer at AvalonBay Communities]

Maybe the final point there, Chandni, as you think sort of about the -- our ability to fund this development activity, it sort of is somewhat tied to what's going on in the core business, where we are in the cycle, what kind of EBITDA growth we have and what do our capital options look like. At the moment, what we've been doing has been funding our external needs through a combination of newly issued debt and disposition activity. And for this year, with respect to our capital needs of about $900 million, our current plan, which, of course, can change, is that we're likely to fund that through -- primarily through the issuance of new debt and then modestly through some net disposition activity.

Of course, capital market conditions and our uses can change. But it kind of speaks to the notion of a couple of things. Obviously, with our EBITDA rising very briskly here this year, we can utilize debt to help fund development, and it's an attractive source as it is, both in its own right and on a real basis when you think about inflation. And we can do that by issuing debt because our EBITDA is rising quite a bit, and we can be leverage-neutral in doing so. But in the typical year and in most years, we can fund about $1 billion to $1.3 billion-or-so of development activity through a combination of -- and free cash flow selling assets where we can retain the capital because of our gains capacity and then leverage-neutral issuance of debt.

So that's kind of in a normal environment, plus or minus what we can do. We can probably do a little bit more early in the cycle as same-store NOI grows briskly as it is now. And potentially, at some point, right now, our equity is attractive as a source for funding development, although at the moment we find asset sales to be more attractive. But if we're going to be doing an awful lot more than those -- that kind of level of development funding, it does imply that we're going to have some level of equity market access. So that's another constraint to layer in as you think of what's possible. So the three constraints we traditionally think about is we're constrained by opportunity set, that we're constrained by sort of organizational capacity and that we're constrained by sort of what we have on the capital side. So that was speaking sort of that third bucket right there.

[Chandni Luthra, Analyst at The Goldman Sachs Group]

That's great level of detail. Thank you for that. And for my follow-up question, I know you gave out good detail on how should we think about the low end versus high end of guidance and one gets you to each side. But could you perhaps contextualize cadence through the year? And how should we think about seasonality this year given this concept was pretty much thrown out of the window in 2021?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes, this is Sean. What I was indicating earlier just based on leases that were written in early 2021 -- the first half of 2021 basically kind of being substantially below where the things are today, that we do expect revenue growth to accelerate as we move through the year. As we move those leases to market certainly is a driving factor. As Kevin mentioned, when we get to the back half of the year, we expect bad debt to improve. So that also leads to accelerating revenue growth as we move through the year.

So as it relates to seasonality in the back half of the year, it's a little too early to tell. We are expecting getting back to more like seasonal norms when we get in the back half of the year as compared to what we experienced in 2021 but maybe very different by market depending on the sort of shape of effective rent growth as we move through the year. What demand comes back and when it comes back to some of these markets that we're talking about, we were still expecting a more full return to the office, etc. So I would say that we are expecting more like seasonal norms when we get to the back half of the year, but we'll probably know better as we get through, say, midyear, what that might look like.

[Operator]

We'll now take our next question from John Pawlowski with Green Street.

[John Pawlowski, Analyst at Green Street]

Thank you. Sean, just one quick one for you. The 11% same-store like-term effective rent change in fourth quarter, could you give us a sense what it would have been had there been no regulatory curves?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes, it would have been higher. I can't give that to you off the top of my head, John. But yes, I can certainly circle back and let you know. What I would say is -- or I mentioned earlier, is about 1/3 of the portfolio is currently constrained. And you would have seen better renewal growth. My guess is, to provide a little bit of color, move-ins were at 12.5% and renewals were at 10%. You probably would have seen the renewal side look more like the move-in side but still a little bit of a delta just because of the lag between when renewal offers were made and when they're actually signed. You have leases renewed since you signed renewal offers 60 to 90 days in advance. But you would have seen maybe another 100 basis points on a blended basis, if the 10% went to 12% and 50% turnover, as an example, if you're looking at it in kind of theoretical terms.

[John Pawlowski, Analyst at Green Street]

Okay. And then Ben or Kevin, the $880 million earmarked from capital sales or asset sales and capital markets activity, if you pull that back, what's the kind of preliminary assumption? Assuming your cost of capital stays where it is and the private market pricing stays where it is, what's the preliminary assumption for asset sales within that figure?

[Kevin O'Shea, Chief Financial Officer at AvalonBay Communities]

Yes, John, let me start a couple a little bit. So the external funding need of $880 million is kind of what we really need to run the business if we weren't -- if we're just sort of really kind of not focused on the trading activity. So there'll be a fair bit of acquisition and dispositions just kind of on a trading basis through the investments group that Matt oversees. From the standpoint of raising external capital, our current plan, as I mentioned a moment ago, that is funded largely through the issuance of newly issued debt. Just given where debt rates are today, although they're up from where they were three, four, six months ago, they're still quite attractive by almost any metric and certainly attractive relative to our investment use, which, in this case, is development.

So the $900 million-or-so is really to primarily fund the investment activity. So that will be mostly through debt, and we'll likely be able to do so on a leverage-neutral basis. There is -- we do expect to be a modest net seller of assets. And so those net disposition proceeds will be worked into a small component of that $900 million. And again, of course, as you point out, that's where we stand today.

We think all of our main capital choices, unsecured debt, selling assets and issuing equity are attractive. But when we rank order those, debt and asset sales are a lot more attractive than selling assets -- selling equity today. So our plan at the moment contemplates asset sales and debt. But just given our rising EBITDA growth and our capacity to issue debt on a leverage-neutral basis in -- both on a nominal and then on a real basis where debt rates are today, our preference is probably for -- to use a little bit more debt here right now.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

And John, just a little bit more color on kind of overall transaction activity, acquisition and dispositions. We are expecting both of those to be up relative -- up some relative to 2021. And Kevin used the term sort of trading capital. And that tends to continue to be our approach, which is a trading capital out of predominantly the Northeast in assets that have had pretty good runs up in value, tend to be older assets, lower IRR profiles and then redeploying that capital into our expansion markets to capture that growth and as part of our overall portfolio allocation objectives.

[John Pawlowski, Analyst at Green Street]

Okay. Understood. But just one follow-up on the rank ordering of sources of capital. Just -- I know it's a very, very modest amount, but I still don't understand why there was any equity issue given where cap rates are right now and to your point that just the private market pricing. So how is that conversation in the fourth quarter to issue equity at these levels?

[Kevin O'Shea, Chief Financial Officer at AvalonBay Communities]

Yes. I mean this is maybe -- I'll kind of hit on a few high points, and we can certainly talk about it after because some of this gets a little bit nuanced and so forth. Starting at the top, in terms of where we rank order pricing, asset sales are kind of number 1, more or less at the 100 percentile when, in the past, we've talked about our heat map and our way of sort of looking at spot pricing and on an absolute and on a historical relative basis. So asset sales are probably number 1. Debt issuances, kind of behind that into the low 90 percentile range. And then equity for us is probably more in that mid-80% range.

So I think we'd agree with you probably on the rank order. I think probably where we might differ is perhaps just given where I know you're -- how you're looking at things, maybe you have a slightly different view of a greater separation with respect to equity pricing versus some of the other choices. From our standpoint, it's -- particularly in a dynamic environment like this, it's hard to be dogmatically focused on -- mechanistically on NAV, although it's a dominant factor in our analysis because NAV can move dynamically here. In terms of what we did, philosophically, there is -- it does make sense to infuse the balance sheet with equity issuance when we think it is attractively priced relative to development.

And so just because it helps preserve a higher basis set of assets, that, in turn, over time, can help support our recycling strategy to continuously fund development. And so that's one element of why when it does make sense and we feel attracted to the price, bringing in some equity does make sense. In terms of what we did in Q4, we had a modest amount of ATM issuance in early October before the issuance window closed and then a little bit more in -- on a forward basis, in late November, early December. And the reason why we were looking to do a little bit there was just given where pricing was at the moment.

But market volatility, as you may recall, started to work back into the market, and we just chose to step back out of the market given that dynamic as well as capital position, which, as you can see here and the $420 million of unrestricted cash on our balance sheet, was in an excellent position. So those are really the thoughts. We've probably raised about $2 billion last year, and maybe about $30 million was equity. So I think that gives you a sense of where we feel equity ranks in the mix. It's attractive but nearly so is asset sales. And so that's kind of our general thoughts. I don't know, Ben, if there's anything else you want to add.

[Operator]

We'll now take our next question from Rich Anderson with SMBC.

[Rich Anderson, Analyst at SMBC]

Hey thanks good afternoon. So 10 years ago, you guys got the big multiple as the multifamily REITs, and the Sunbelt players were several rungs below you. I know that, that has changed. So this question really is on your expansion market approach. You said that an increasing number of people are moving into your urban areas from more than 150 miles away. And if I'm a resident -- I understand trying to avoid regulation. But if I'm a resident, I might want to live in those regulated markets and protect myself to some degree. So to what extent are you married to this 20% to 25% range? And if you start to see some systemic things going back in the other direction that support long-term urban over Sunbelt, would you yourself make a change yourself?

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Yes, Rich, it is -- it's a target, right? And so we put that out there to help drive internal activity and to drive our resource allocation, particularly on the people side. The other part I'd emphasize is this is -- we're going to move into these markets and diversify our markets over time, right? And that is very much a part of kind of our measured approach here, right? Acquiring our development activity in these new markets inherently paces in our investment over a period of time.

So we think it's the -- if we look at overall portfolio optimization for some of the reasons that we talked about, diversification, diversification away from regulation, we think it makes sense to continue to move in this fashion. With that said, our established markets, that's the bulk of our activity. We're strong believers in those -- in the trajectory of those markets going forward. And they're going to continue to get the bulk of our investment, both on the development side and on the people side.

[Rich Anderson, Analyst at SMBC]

Okay. Fair enough. And then just a quick follow-up. Some strange labor markets in the present tense, inflation, interest rates and so on, but you're ramping up development. Is that -- you're making a commitment by doing so to out years, 2023 and 2024. Is that the way we should be thinking about it that this is not just a 2022 story, but you are making a call also on a continuation of above-average fundamental performance in out years? Is that a fair statement?

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

It is -- yes, it is the direction we're moving. Yes, we definitely continue to pivot into growth mode. The build of our development pipeline, a lot of that is options on land, right? So we -- a little bit to your first question, we will continue to be able to be flexible and adapt just based on marketing conditions at that point in time. But we are leaning in and do want to secure additional land rights given the economics that we're seeing today and at least our forecast going out over the next year or so.

[Operator]

We'll now take our next question from Joshua Dennerlein with Bank of America.

[Joshua Dennerlein, Analyst at Bank of America]

Hi everyone. Just wanted to follow up on a comment you made earlier. You mentioned that it's harder to get building permits in the suburban markets versus urban. Just curious why that is and if that's a new thing or it's always been historically like that.

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

Yes. Sure, Josh. This is Matt. Yes, I was really referring to entitlements, and that has been the case in our legacy or established regions for a long time. And if you think about it, it comes back to politics, right? I mean entitlements is a political decision. And many of the suburban jurisdictions, you take New York, for example. We're in New York City. We're also in Long Island, New Jersey, Westchester County. The latter 3, Long Island, New Jersey, Westchester County, they all have a bias against multifamily housing. The housing stock is primarily single family. A lot of people are there because of the school systems. And they don't want more growth. They don't want more kids in the schools. And there's a back story there as well where there's just a bias against renters.

You compare -- contrast that with New York City, and there are certainly neighborhoods where it's difficult to get entitlements. But a lot of what you can build in New York City can actually build by right. You don't need anybody's approval. You just go straight to building permit. You don't have to go through the planning commission. You don't have to go through the Neighborhood Advisory Council and all those other things that we're so good at that takes so long. So generally -- and that's true in most of our markets, maybe not in the City of San Francisco, but certainly, in the Northeast, that's been the case. And even on the West Coast.

And if you look at the amount of supply in our established regions, urban versus suburban, in the last decade, there's been a lot more as a percentage of supply in the urban submarkets. Some of that is because there's been demand there. And some of that is because it's easier to build there. So we do think that, that is a structural feature of our kind of the way our political and regulatory framework exists. And yes, that plays to our strengths, and that's always been something that's been core to one of our strategic capabilities.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Yes, and it really speaks to the benefits from the long-term investment that we're making in these development platforms, right, the long track record that our lead developers have. When the opportunities do surface for incremental rental housing in these markets, we tend to be one of those first calls, right, given the relationships, given the execution, given what we deliver in these markets. And so that's why you're continuing to see significant investment and development in these expansion markets at the types of spreads that we've referred to.

[Operator]

We'll now take our next question from Alexander Goldfarb with Piper Sandler.

[Alexander Goldfarb, Analyst at Piper Sandler Companies]

Hey good afternoon and thank you. So just a few questions here. Going back to Nick Joseph's question earlier on the call about the 200 basis points in margin and just, yes, thinking broad picture across the company, how much of the margin savings just comes from the fact that the job market is tight, so the ability to backfill positions is tougher? So you may be running with fewer -- and let's say you're running with few -- with more open positions, meaning fewer positions filled than you'd otherwise like, just sort of curious.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes, Alex. This is Sean. The vacancy on payroll, if you want to think of it that way, has nothing to do with the margin expansion. There will always be vacancy on payroll regardless just because you're never really 100% occupied, if you want to think about it from that perspective, from a payroll standpoint. So there will always be some constant vacancy because the margin improvement is directly as a result of initiatives that are associated with various activities.

[Alexander Goldfarb, Analyst at Piper Sandler Companies]

Okay. So what you're saying is right now in this current labor market, you haven't seen any -- versus your historical payroll gap, you haven't seen that grow that you're saving more G&A/property management, whatever, expense. It's -- that gap has been pretty normal despite the tight labor.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

No. I'm trying to separate payroll vacancy from initiative benefit. I think it was your question. And there has been some incremental vacancy both in 2021 and where we sit today that is independent of specific digital initiatives or other initiatives that will shape the nature of our operating model going forward that will deliver the 200 basis point of margin improvement.

[Alexander Goldfarb, Analyst at Piper Sandler Companies]

Okay. Okay. That's helpful. And then the second question is, as you guys underwrite your next set of projects, how are you looking at rent growth versus construction costs, timing delays and all that fun stuff? Is your view that rent growth will continue to outpace your costs such that development yields should hold or maybe improve? Or are you expecting some pressure on yields?

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

Alex, it's Matt. We generally tend to underwrite everything on a current basis. So whether it's a deal that we're signing up now that's not going to start for two years or it's the Class three budget and we're about to start it, we look at today's rents, today's expenses, today's hard costs, and we come up with kind of a spot yield. So we don't -- we generally don't trend, which, generally, is one reason why when our developments stabilize, they tend to beat the pro forma. Our current deals are running, I think, 30 or 40 basis points ahead of the initial underwriting. And that's not uncommon for us. So generally, that served us well.

What I would say is that right now, like if I compare deals to six or nine or 12 months ago, the rent increases at which you get some operating leverage, meaning the NOI increase is higher than rent increase, that has covered the increase in hard costs so far and the yields are still in the high 5s on the new business we're underwriting, which is probably where they were a year ago. There is some risk that at some point, hard costs tend to lag, and so they may increase more quickly than rents or NOIs in the out years, but there's also tremendous room in the margin. Right now, the development deal, the margins Ben was talking about, the spread is massive. So even if that comes in some, it's still going to be a very profitable business.

[Operator]

[Operator Instructions] We'll now take our next question from Haendel St. Juste with Mizuho.

[Haendel St. Juste, Analyst at Mizuho]

Yes. Good afternoon. A couple of quick ones for me. If I could start first on bad debt, just going back to that topic. I think I heard you correctly, you're not including any improvement in bad debt this year for your baseline outlook. I guess I'm curious what's the thinking there. It seems a bit conservative. Some of your peers have started to reflect this in their baseline outlooks. And then proportionately, what percent of that is California, more specifically Northern California-based?

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes, Haendel, as it relates to bad debt, we are expecting an improvement in what you might refer to as sort of the underlying bad debt rate, excluding any benefit from rent relief. And so it's roughly about a 40 basis point improvement is what we're expecting for 2022 relative to 2021. But it is timing -- the timing is not even at all through the year. We basically expect the first half of the year to look a lot like the back end of 2021 and then deceleration in bad debt as you move through the third and fourth quarter of this year. So that's how I would think about it. As it relates to the composition across the markets, in California, in particular, the heavy place for bad debt really is L.A. There is bad debt in Northern California. It's not nearly as bad as L.A. So we can certainly get you the numbers specifically for Northern California, but it won't be as much of an outlier as it is in Los Angeles.

[Haendel St. Juste, Analyst at Mizuho]

Okay. I'll follow up with you guys on that -- actually, both sets of numbers. And then a couple of quick ones on development. I guess I'm curious how much of the development cost for this year in terms of what's underway and what you'll be starting. What proportion of those costs are locked in? And then on the development NOI contribution you outlined for this year, I think I heard you right, and I think I understand that your current outlook for that is based on current market rent. It does not have any reflection of market rate growth or any trending. It's based on today's market rent.

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

Sure. Yes, I can take -- this is Matt. I can take a shot at those. As it relates to what percentage of our costs are locked in, so on the deals that have already started, the 2021 starts, when we start a project, we have what we call a Class three budget. So at that point, we're pretty well locked in. We don't necessarily have all of the subcontractor contracts committed yet, but we have a very high percentage of them, anywhere between 60%, 70%. So I would say we're pretty well covered there. And if you look historically, we have a very, very good track record of delivering of projects on time and on budget within a point or two.

So the risk is probably more on the jobs that haven't started yet, the jobs that we're planning to start in 2022. The soft costs are pretty nailed down. The land cost is defined. The exposure there is further increases in hard costs between now and when we can get those deals permitted and bought out and how that increase might be different than what might happen to NOIs. And so we have a little bit of exposure there, but I would have said the same thing six months ago. And as I said, even -- through the last two, three quarters, the yields have more or less held up.

So -- and in general, those deals, the deals we're looking to start this year, the underwritten yields today on the untrended numbers are in the high 5s, 5.7%, 5.8%. We certainly hope they stay there. But even if they do get some cost pressure and they wind up 5.5%, that's still very strong value creation. As it relates to the NOI on the -- for 2022 on the lease-up deals, that is based on today's rents, and the lease-up budgets that were prepared are deal-by-deal specific. I think Sean has a little more color on that.

[Sean J. Breslin, Chief Operating Officer at AvalonBay Communities]

Yes. One thing I would add on that is most of the deals that are delivering the NOI this year have been mark-to-market, but there are three deals that are expected to start delivering in 2022 and going to lease up those three deals. The rents have not yet been mark-to-market. So there should be a little bit -- given the environment, there should be a little bit of inflation associated with those three assets when they begin to deliver [Indecipherable].

[Haendel St. Juste, Analyst at Mizuho]

Got it. Got it. That was very helpful. And one last one, just thinking about your development in your expansion markets, I think you mentioned 20% of this year's starts will be in those markets. I guess how do we think about that longer term? What proportion of your annual starts or spend could come for those markets? And any noticeable difference in underwritten yields between -- in your expansion versus established markets?

[Matthew H. Birenbaum, Chief Investment Officer at AvalonBay Communities]

Yes. It's Matt. I mean we'll see over time. Certainly, if our goal is that those markets are going to be 20% to 25% of our overall portfolio, we would look for it to be at least that much of our development pipeline, but it's going to take some time. That is an activity that benefits from the local presence, from the knowledge, from the flywheel, if you will. So I'm not sure that it's going to be materially different over the next year or two. The one exception to that would be, as Ben was talking about, this program.

In addition to doing our own development, we are looking to provide capital and fund other developers with deals that they might have where they're ready to go and are looking for capital. We have one deal that we're going to start this year in North Carolina that fits that description. One of our deals in Florida under construction fits that description. Those deals will probably be a little less profitable because we do have local sponsors. They're a little bit lower risk, a little bit lower yield. They're kind of halfway between a development and an acquisition is the way we tend to think about it. So we may see some of that pick up.

[Operator]

We'll now take our next question from Nick Joseph with Citi.

[Michael Bilerman, Analyst at Smith Barney Citigroup]

It's Michael Bilerman here with Nick. Ben, over Avalon's time in terms of market expansions and growing, and I take it that you've always pursued a very measured approach, there's always been sometimes a transaction that speeds up the process, either through swaps with other REITs or potential transactions with private partners, either on a buy or a sell side. Given all the activity that's happening in the multifamily market, is there an opportunity today where some of this transformation could be accelerated?

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Yes. Thanks, Michael. Yes, it's a possibility, but I wouldn't describe it as a priority right now. Yes, I think there -- we do look at some of the portfolios that are out there. They tend to be more geographically dispersed. And given our focus on our core set of expansion markets and really, in its approach based on for us to create value, right, we want to be able to leverage our full operating teams and our development teams to create that value, we stay pretty narrow from a geographic perspective. So there could be a portfolio that fits enough of the kind of strike zone for us that we would look at, and so that will stay in our radar. But I expect more of our activity to be similar to what you've seen in 2021 with some expanded growth going into this year and following years.

[Michael Bilerman, Analyst at Smith Barney Citigroup]

And I guess, where -- in your mind today, would you be more leaning towards likely accelerating dispositions or, conversely, trying to find and maybe taking down more deals before you sell, right? Just -- I'm just curious sort of where you're finding the most demand because I would imagine, even though some of these portfolios are geographically dispersed, given the relationships you have with third-party capital sources, you may be able to do something unique there as well. And I just didn't know where the bias was today, whether you want to hit the bid on the sale or whether you want to be aggressive on the buy.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Yes. There is a matching component of it. I would say, given the run-ups that we've seen in our existing markets and also seeing the run-ups in some of the markets that we're growing in, we're comfortable at this point in sort of the trade capital arena, right? We're sort of matching the level of disposition activity and redeploying that capital in the expansion markets. For incremental growth, right, then as you're referring to it, would mean tapping into additional disposition activity or potentially tapping into incremental equity. And right now, we sort of look out on it. I think we're going to continue to progress in a fairly measured way.

And then the last piece to sort of emphasize -- yes, the last piece to emphasize, I mean, from an overall total investment perspective, right, we're continuing to invest significantly, $2 billion-plus this year. But a good portion of that is going into our established markets around these development opportunities. And so as we look at from a risk/return perspective, right, leveraging our existing teams and being able to unlock the next rounds of the 200 to 250 basis point spread, that remains very high on our list in terms of attractiveness.

[Michael Bilerman, Analyst at Smith Barney Citigroup]

Right. When you think about all the land that you control either through contract or on the balance sheet, then you have a long runway to continue that growth in your established markets with very attractive returns. That wasn't a question. That was a comment. But I had another -- just one question for you, Ben. Now that you've sort of been in the seat for the last year at Avalon, being in a pure multifamily platform, has your mind changed at all about sort of how you view mixed use in terms of ownership at Avalon? Just drawing on your previous experiences, I'm just wondering how that has evolved in your thinking for Avalon in terms of its ownership of other pieces or maybe getting involved in more complex projects. Just sort of walk me through your mindset today on that.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

Yes. Good question. It continues to be -- I think the conversion of retail land as well as suburban office land continues to be an attractive source of land inventory for us. And as we're building up our pipeline, that's a decent amount of it. I'd say, today, actually probably a little bit more of it is to fund suburban office product that we can control, a little simpler on the execution, smaller sites. And so we're finding some good opportunities there, particularly in our established markets.

A little bit more broadly, I mean, AvalonBay, of the peers, has been the most successful in partnering with others. And when it works, it really works well. We opened a project recently in Woburn, Mass, which isn't even sort of the broadest of mixed-use environments, but part of the attractiveness there is the ability for our residents to walk out their door and have access to the grocery store and the restaurants. And so when we can find those opportunities with the right partners, it is something that we'll continue to lean into.

[Operator]

It appears there are no further questions at this time. I'd like to turn the conference back to Mr. Ben Schall for any additional or closing remarks.

[Benjamin W. Schall, Chief Executive Officer and President at AvalonBay Communities]

All right. Thank you, and thank you to everyone for joining today. We look forward to engaging further with you over the coming months.

[Operator]

[Operator Closing Remarks]