Bridge Financing Demand Catches the Eye of Investors

Institutions are offering an option the agencies don't, according to Drake Ayres of Sabal Investment Holdings.

Photo of author Drake Ayres of Sabal.
Drake Ayres

Real estate and banking are undoubtedly facing challenges under the weight of interest rates, a slowdown in bank lending, valuation issues and COVID-era impacts including distress within the office sector. But the situation is not all doom and gloom. Amidst it all, there are still opportunities for investors. One such opportunity sits within multifamily and, more specifically, within the affordable housing finance sector. Let me explain here.

Multifamily dynamics setting the stage

Markets have cooled after a record run of performance across the multifamily asset class. A recent surge in new supply has come online recently, outpacing demand and contributing to a deceleration in rent growth within markets across the country. However, the overwhelming majority of these new apartment units fall into the four- and five-star categories, thus serving higher earning renters seeking an upscale lifestyle and robust amenities. Unfortunately, affordable rental supply fails to keep up with demand among a different cohort – renters with lower incomes. A multitude of dynamics, including elevated interest rates, lackluster subsidy and incentive programs, high costs and more, has simply kept the construction of new affordable units from being a financially feasible endeavor.

Confounding the issue is the growing number of renters who are increasingly cost burdened. The Joint Center for Housing Studies at Harvard found that, in 2022 (when it was last measured), a record 22.4 million renter households spent over 30 percent of their income on rent and utilities. Among these cost burdened households, 12.1 million faced housing costs exceeding half of their income. Amid these factors, demand for affordable units far outweighs the existing supply and, though it will fall short of fixing the totality of the issue, it’s now more important than ever to maintain that existing supply and keep it available to the renters who need it.

Finance options and availability are key

Existing affordable rentals are typically about 45 years old. Ensuring that these units are kept available to renters requires that apartment community owners have access to finance options. With persistently elevated interest rates and many of the country’s banks unable or unwilling to issue new loans, the government sponsored entities Freddie Mac and Fannie Mae have become the defacto providers of finance for multifamily permanent financing, including for affordable rentals. Mission-driven, these agencies are committed to providing liquidity in the market, to the benefit of the borrowers who need it.

However, there’s one type of financing the agencies don’t provide that is also essential: bridge financing. And this temporary financing has caught the eye of some of investors seeking opportunities today.

Drilling further into the investment opportunity

As a sector, bridge financing, often used as a temporary vehicle for multifamily properties which are not quite ready to obtain permanent agency financing, has done well. These loans are a critically important solution for apartment owners in need of short-term capital for fast closing while they complete the necessary initiatives, including minor to moderate rehabilitation or repositioning for example, in an effort to ensure their end goal of obtaining an agency loan is met. In essence, these loans help usher affordable rental properties toward the permanent financing they require.

Bridge loans are en vogue now as borrowers seeking finance these days tend to prefer a short-term loan at a higher rate over the alternative of getting locked into a higher rate longer term loan. They may pay more in the interim, but they’ll be able to seek less expensive permanent financing once interest rates start to come down.

Institutional investors have taken notice of this borrower preference and have been pursuing opportunities to take part, now investing heavily in affordable multifamily bridge loan programs offered by non-bank lenders who don’t face the challenges that banks currently do. Consequently, these lenders often also provide agency loans, thus the bridge loan programs help them capture repeat borrower clientele that they can engage again later for an agency loan.

In essence, the demand for affordable apartment bridge loans is surging, and these transactions are serving a critical subset of multifamily that desperately needs solutions all around. Investment in these bridge loan programs is a win for owner, investor, lender and, ultimately, renter.

Drake Ayres is managing director for Sabal Investment Holdings, the real estate investment management firm serving institutional investors.

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