As we come up on six months since the stay-at-home order in March, our brokerage team has had many similar conversations with multifamily property owners in the last several weeks.
People are asking many questions. How active is the market? What's changed with lending? Is now a good time to sell?
When the first quarter of 2020 was coming to a close, the suburban multifamily investment market was the strongest it's ever been as the demand for rental housing was continuing to rise. While the rental demand has not changed, the supply and financing options have; there continues to be strong investor interest but fewer opportunities for them to acquire new assets.
While potential sellers are understandably concerned that if they were to try to sell today they would have to do so at a discount, we have seen very little difference in pricing, especially for stabilized, B-Class assets.
Over the last several years many of the active buyers wanted C-class, "value-add" opportunities. The business plan would be to acquire an asset, upgrade the complex to increase rents, then refinance to pull out some or all the initial equity in.
This business model may still work in some situations, but there is significant risk in assuming what rents will be in 12-18 months once the renovations are complete.
The result is that we have seen buyers trend toward the stabilized assets that have less upside but also carry less risk.
Another factor influencing this change? The debt market is extremely favorable toward B-class properties, and buyers can get rates in the 3.5-4% range with several years of interest-only payments.
Renovation loans, however, are more difficult to get today as many lenders have put their renovation programs on hold or are offering them at much higher rates. This means some buyers must fund the full renovation costs out-of-pocket or pay higher interest rates, both of which push down the returns of the asset.
In addition, if a buyer is going to apply for Fannie Mae or Freddie Mac financing, they can expect to fund an additional 6-12 months of principal and interest payments up front for reserves.
Underwriting is one area where everyone agrees on change. Buyers are no longer estimating 3-5% rent increases and low vacancy. They are now underwriting for 0-1% rent increases year one and slightly higher vacancy over the first two years as well.
With the eviction moratorium still in place and limited options for landlords to improve units and increase rents, buyers are assuming if they acquire a property with below-market rents they will hold those rents for at least a year.
In the last 90 days we have closed both B- and C-class properties and the transactions were very different. On a suburban C-class property that was almost 200 units and under contract when COVID hit, we saw Fannie Mae not only pull the buyer's renovation loan but also lower proceeds and increase their reserve requirements. In contrast we sold a 48-unit, newer construction, A/B-Class property in which the buyer put very favorable debt on the property and cash flow from Day One.
In the last 60 days since the stay-at-home order was lifted, we have brought multiple properties to market and each one has either sold or is under contract, all within the price range we expected when we came to market. We have set up between 7-15 tours at each property, and most of them have received multiple offers.
While part of this is a function of supply and demand, most investors still believe in the fundamentals of multifamily compared to retail and office investments, and even the stock market.
We are cautiously optimistic for the coming year as experienced real estate investors have the ability to look beyond the short-term effects of the COVID environment and plan for the future.
• Brian Kochendorfer is managing director of Essex Realty Group, based in Chicago. For more information, visit www.essexrealtygroup.com .