Welcome to The Ridgeview Report, your go-to source for analyses and updates on the ever-evolving landscape of multifamily real estate. In this edition, we’ll share 3 key takeaways summarizing the state of the multifamily market in December of 2023.
Debt Is Expensive and Bank Lending Remains Dislocated
Debt remains expensive, especially if you need bank debt. During this last fall, the 5-Year Treasury soared, reaching a 4.92% high mark in October. Lenders quickly raised their rates to keep up. Investors sighed in relief as the 5-Year proceeded to recede just as quickly; which as of this writing sits at 3.85%. An investor shopping for debt today can expect the following:
-Fannie and Freddie Conventional Loans can be had in the 5.5%-6% range. Bear in mind, that agency lenders only lend on in-place cash flow, and will not fund any value-add renovations. Often today, investors will secure Freddie or Fannie lending for a new acquisition and pay for the renovations with cash. Buying a property with little or no cash flow, or one that has major cap-ex needs, will require other lending sources.
-Bank lending is highly dislocated in Q4 2023. Last week I requested term sheets from 5 banks that I currently have loans with, and only 2 responded that they are actively lending. The majority of multifamily banks are running low on deposits and have hit the brakes on lending. Many will say they are active, but the terms they offer tell a different story. Quotes in the high 7% and 8% range, or requiring $500K bank deposits are a few examples. Props to one of my lenders who took a more direct approach and outright told me “Our rates suck!”. If you need a bank loan, the key today is to hire a mortgage broker to find the right bank. The broker will get your deal in front of dozens of banks, and find the few that are willing to play ball. In my experience, today you can find rates starting around 6.8%, but only if you search far and wide.
Insurance Costs Are Rising
As natural disasters wreak ever more havoc across the country, so are they upending the insurance industry, which is passing along the higher costs to policyholders. Rates increased by an average of 35 percent in Florida, the most of any state. Hurricane Ian, which hit in late September 2022, turned out to be the costliest hurricane in the state’s history. In Idaho, where many homes are vulnerable to wildfires, owners paid an average of 31 percent more. Colorado, South Dakota, Louisiana, and Texas also saw marked rate increases as residents confronted more losses from natural disasters and fewer insurance options.
Far from hurricanes or wildfires, the effect can also be felt on insurance rates locally in Minnesota. Eerily similar to the bank lending situation, the insurance landscape is hit and miss. Some carriers are doubling their premiums, while others are operating business as usual. Most apartment owners that I talk to have had to switch insurance companies on multiple assets this year to keep their insurance costs down. At this current moment, with some shuffling of insurance policies, it's possible to keep insurance expenses within historic levels (~$450/unit in MN). When it comes to underwriting potential acquisitions, however, we’re underwriting to prepare for a future with much higher costs ($600/unit+).
Multifamily Prices Are Down 25%
Thanks to the rapid rise in interest rates, (and with no help from the insurance market tumult), MN apartment buildings have recently sold for deep discounts. As an example, The Golden Valley Greenway Apartments in Crystal MN sold last week for $7M, or $104K per unit. This completely renovated 67-unit building traded after being marketed by a large brokerage firm. Just a few years ago, renovated 60s and 70s apartment complexes in similar locations (Crystal, Robbinsdale, and New Hope) were selling for upwards of $145K per unit. This represents a 25% drop in value from the highs of 2020 and 2021.
Golden Valley Greenway is not an outlier, either. Looking at my deal pipeline, I’m currently bidding on 6 comparable apartment complexes at similar pricing. All are priced in the high 6%, low 7% cap rate range. What happened to cause these steep discounts to appear suddenly? As rates started rising 2 years ago, there has been buyer/seller tug of war, where buyers were waiting for prices to drop, and sellers were hanging on to prices of 2021. It appears the buyers have won out, and sellers realize they need to price their buildings to allow for positive leverage, (Cap Rate > Interest Rate) if they want to get it sold.
Now Is The Time
With multiple properties hitting the market at such an attractive cost basis, now is the time to go on offense. It won’t be easy to hit your cash flow metrics in this environment though. The debt landscape is fractured and ever-changing, requiring frequent updates on interest rates and bank availability. The insurance landscape is also tumultuous and requires extra attention as well. The additional effort, hassle, and diligence are worth it though, as the opportunity to invest in real estate at a steep discount occurs very rarely.
Market News
In their first sale since 2011, the 67 apartments at Golden Valley Greenway have sold for $7 million.
The Greenway was built in 1970 at 2701 Brunswick Ave. N., near the intersection of Medicine Lake Road and Douglas Drive in Crystal. It has access to Bassett Creek Park, an 85-acre park that features volleyball courts, a dog park, and winter hockey rinks. An entity related to Soderberg Apartment Specialists in Brooklyn Center bought the low-rise apartments in 2011 for $2.8 million. Soderberg, which operates 11 properties across the Twin Cities, launched renovations in 2013, with upgraded kitchen cabinets, countertops, flooring and fixtures, stainless steel appliances, and full building system improvements.
Source: Finance and Commerce Crystal Apartments Draw $7M https://finance-commerce.com/2023/12/crystal-apartments-draw-7-million/
Tips & Tricks
Terms:
Mortgage Broker – A mortgage broker is an intermediary who seeks out the best lender for the borrower's loan and interest-rate needs. Brokers partner with a variety of lenders, including commercial banks, credit unions, mortgage companies, and other financial institutions.
Positive Leverage - Positive leverage occurs when the operating cap rate from a deal is greater than the interest rate of its debt. In this scenario, using debt can actually improve the annualized yield on equity because the debt costs less to service than the cash flow received from the leveraged portion of the project.