Multifamily Investors Refocus Financing Criteria

The multifamily market enters 2019 after posting another exceptional year. There was an abundance of relatively inexpensive debt capital as well as equity available for investors, and rising rents and low occupancies made the market attractive despite high valuations. As a result, we saw record volume of multifamily activity in 2018, impacted by the large number of portfolio transactions.

It is unlikely that the market will change drastically in 2019, but it would be surprising, at this stage in the cycle, if it didn’t cool slightly as the year progresses. Since mid-2016, the 10-year treasury note has been trending slowly but steadily higher. The average yield for 2018 was 2.91 percent, higher than at any point since 2010.

Higher interest rates—combined with excess supply in some cities and flatter rent growth— suggest that valuations will not continue their upward climb. At the same time, there is no indication that sellers are ready to lower their prices.

There will still be an abundance of capital. Banks, agencies, debt funds, life companies, and CMBS lenders show no sign of cutting back their commitments. And the Federal Housing Finance Agency (FHFA) announced in November that it is setting its 2019 lending caps for Fannie Mae and Freddie Mac at $35 billion, the same as last year.

The outlook is complicated by external factors as well. In 2019, the markets—multifamily among them—will be subject to stains caused by ongoing tariff disputes, structural weakness in the Chinese economy, Brexit, and government gridlock in the United States. It is likely that the volatility we have seen in the capital markets during the last quarter of 2018 will continue into 2019 and will impact sentiment in the multifamily market.

Investors Refocus Their Financing Criteria

In these circumstances, the margin of error for multifamily investors will be thinner in 2019 than in 2018. Finding the precise financing structure that meets their needs will be increasingly critical. At Capital One, we are already seeing investors adjust to these evolving dynamics. Perhaps the most obvious sign so far is that those who favored floating-rate loans over the past several years are turning to fixed-rates, locking in rates that from a historical perspective are still remarkably low.

Market conditions are also affecting the way lenders source their debt financing. These lenders, however, meet different needs. Our latest Capital One RealShare Apartments survey found that borrowers, by large margins, intend to rely on banks and agency lenders for the bulk of their financing in 2019. Thirty-six percent of the respondents said they would choose banks, while 30 percent said that they would principally turn to agencies. Debt funds gained in popularity by 5 percentage points, but at 13 percent, their share of the market remains modest

The reasons for these preferences are straightforward. At a time when fixed-rates are increasingly desirable, Fannie Mae and Freddie Mac on the whole provide the best fixed-rate pricing available. Banks continue to offer significant advantages in terms of flexibility and for developers looking for construction loans.

Look for experienced Lenders with a long-term commitment to multifamily

Overall, we believe the multifamily market will post another strong year in 2019, although one that will be perhaps not quite as robust as 2018. In an environment characterized by slowly rising interest rates, high but stable valuations, and a degree of economic uncertainty, multifamily investors should be extremely careful about selecting a lender that best matches their goals. In 2019, finding a lender with the ability to offer a range of executions and who has been through the entire market cycle will be more important than ever.

Jeff Lee is president of Capital One Multifamily Finance. The views expressed here are the author’s own and not that of ALM’s real estate media group.