Is Multifamily Investment Finally Thawing?

The debt and equity markets may be loosening, though we’re still nowhere near recovery.

We’re nearly halfway to 2025, and a longer-than-expected wait for interest rate cuts has left multifamily stymied. But that may be changing. Although transaction volume is likely to remain low, dealmakers are increasingly interested in moving forward despite the reality of the current environment.

“I think that folks are starting to realize that if we have rate cuts, they won’t be deep,” said Caitlin Sugrue Walter, vice president for research at the National Multifamily Housing Council. “We’re cautiously optimistic that things are starting to move” despite high interest rates and reduced rent growth.

Ken Rosen sees movement, too. “The investment market last year was off 50 percent,” noted the chairman of Rosen Consulting Group and the Fisher Center for Real Estate and Urban Economics. But transaction activity increased about 20 percent in the first quarter.

The movement is coming from a few spheres. Institutional investors and lenders both need to deploy capital, while some property owners that have delayed entering the market due to the high cost of capital and uncertain market are finding they have no choice.

Image by pkline/
Image by pkline/

Equity placements needed

Just $5 billion in multifamily sales closed in the first quarter, according to Avison Young, the lowest amount since the second quarter of 2020, when COVID reduced sales volume to some $4 billion. That followed a decrease of 61 percent in 2023, to $119 billion, according to Matthews Real Estate Investment Services.

With transactions down so much, equity providers have been hard pressed to find opportunities to place mezzanine and preferred equity. And as the year progresses, they’re feeling the pressure to address a severe under-allocation in real estate, particularly those with closed-end funds. That’s leading some to involve themselves more directly in deals than they would like, by becoming joint venture partners.

“We are in dialogue constantly with providers of equity and structured capital, domestic and abroad, within the housing sector, and see them leaning in a lot more now than they did in the second half of 2023,” observed Noam Franklin, managing director & head of the Eastern U.S. for Berkadia’s joint venture equity & structured capital team.

It’s also giving them an opportunity to forge new relationships with best-in-class property owners that previously limited themselves to repeat business with the same partners, he noted.

The most active equity investors in the second half of the year are likely to be private funds that were raised around specific strategies, said Franklin. “These groups do not have the flexibility to pivot to other themes or invest in lower-risk parts of the capital stack because of their cost of capital.”

Foreign investors are also pursuing opportunities. Franklin noted that Berkadia has seen particular interest among Japanese institutional investors that have a track record in the U.S. and are seeking to diversify.

The majority of assets trading are Class A, primarily core-plus, according to Kelli Carhart, head of multifamily capital markets at CBRE. And institutional capital is very averse to buying anything built in the 1990s or earlier, Franklin noted, adding that experienced buyers are able to acquire newer properties at below replacement cost in many major U.S. markets.

“We expect this trend to continue into the second half of this year,” he predicted.

Advantage: Private players

Institutional capital, however, continues to find it tough to compete against private investors, according to Carhart. “Private capital has been active and has moved up the quality scale,” she said. And it’s been outbidding the institutional investors.

Insurance companies, however, have new allocations that they are looking to deploy in 2024, particularly for Class A properties and lower-leverage assets. “We have recently seen a more competitive institutional bid in some markets, and anticipate that will continue as the year goes on,” Carhart noted.

Cap rates stayed flat from the final quarter of 2023, at about 5.2 percent, noted Avison Young, but that followed a rise throughout 2023, from approximately 4.5 percent at the beginning of the year. Now investors are willing to buy at between 5 and 6 percent cap rates, according to Rosen.

Debt for deals?

Lenders are also in search of deals, but debt remains expensive, Rosen noted. Many multifamily borrowers will have to borrow at a cost, with debt costs exceeding return. “There’s generally negative leverage if you buy an apartment building today.”

Hopes for relief from lowered interest rates have been dashed, and the 10-year Treasury bond will also have an impact. “Ten-year financing depends on the 10-year bond,” Rosen noted, and the 10-year yield on U.S. Treasurys has been hovering between 4.3 and 4.7 percent in recent weeks. “It’s still hard to get money to somebody that doesn’t tend to put up more equity,” he added.

That said, for the right borrowers, debt is widely available and spreads have compressed significantly from last year, according to Carhart. “Lenders are eager to deploy capital in multifamily, and with limited opportunities due to depressed transactional volume, deals can be very competitive for strong sponsors and assets,” she asserted.

New players had been filling the gap caused by sidelined lenders in the past year, offering preferred equity, which has debt-like characteristics, to fill the need for construction loans, bridge loans, permanent financings and refinancings. REITs and family offices, in particular, had stepped up to finance multifamily transactions.

Over the past four months, private equity firm Meadow Partners made five preferred equity real estate deals totaling upwards of $150 million. However, Managing Partner Jeff Kaplan expects the opportunity to provide preferred equity at this scale to be relatively short term.

“We view this as a point-in-time opportunity that will begin to dissipate when the Fed begins lowering rates,” he said. “When interest rates are lower and the capital markets stabilize, the opportunity set will look very different.”

The role of distress

One of the more concerning trends of 2024 has been the anticipated increase in distressed multifamily assets. Declining rent growth, high interest rates, increased construction costs and more expensive insurance have created a difficult situation for lenders and borrowers alike.

It doesn’t help that nearly half of U.S. apartment loan volume is due to mature in the next five years, according to a recent report from Yardi Matrix—a whopping $525 billion on some 58,000 properties. More immediately, almost $150 billion on 6,800 properties is due to mature by the end of next year.

While loans are so far largely being extended, opportunities for rescue capital and recapitalization are likely to manifest.

“There will certainly be distress that will likely result in equity being impaired and potentially even lender impairment,” said Carhart. She sees that creating a significant amount of capital opportunity for pent-up demand.

Berkadia has been approached by an increased number of multifamily owners with distressed assets, Franklin said.  “But after reviewing the information, often we have concluded that there is little existing equity left to save in these properties, and the lender will likely be making the decisions on next steps.”

Geographic considerations

Generally speaking, most recent multifamily acquisitions in excess of $100 million have been in Sun Belt states. Sun Belt migration continues to be top of mind for multifamily players, with many markets expected to continue their steady pace of growth as residents remain focused on suburban areas generally and the Sun Belt in particular, Carhart observed.

As the first quarter drew to a close, the Sun Belt was well represented in transactions. FPA Multifamily and a joint venture of PCCP and Alliance Residential Co. each bought properties in Southern California: FPA acquired 888 at Grand Hope Park in Los Angeles for $186 million, while the PCCP-Alliance venture bought Prado in Santa Clara for $125 million.

Meanwhile, Inland Real Estate Group and IDEAL Capital Group each purchased communities in Arizona, with Inland buying The Parker in Tucson for $133 million and IDEAL Capital acquiring Sentio in Glendale for $108 million.

Read the June 2024 issue of MHN.

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