When Prices Go Low, Are You Ready to Buy?

Headlines continue to suggest that the financial outlook for commercial real estate—even for multifamily housing—ranges from bleak to middling at best. The industry is facing very real concerns about an impending recession, imminent debt maturities, high delinquencies, and flat rents. But this year might just be different than the wild fluctuations of the ’90s or the crash of 2008. This year has the potential to offer unique opportunities for investors willing to act even before conditions feel just right—because by then, it might be too late.  

The foundation

2023 was rough for virtually everyone. Transactions were low if not non-existent for the majority of real estate investors and sponsors. Interest rate volatility meant there was a significant spread between what sellers were asking and what buyers were willing to pay. Now, too many sponsors are undercapitalized, and some inexperienced sponsors underestimated the risk their properties had assumed when crucial underwriting assumptions were missed, such as those for property taxes, rent growth, and insurance.

In addition, according to Walker & Dunlop, it is estimated that $55 billion worth of floating-rate multifamily CLOs are reaching their initial maturity in 2024 and 2025, and approximately $35 billion of those are experiencing varying levels of distress.

Owners of distressed properties will have to make smart decisions fast, and in many cases, their only choice will be to sell.

The opportunity

These somewhat desolate conditions set the stage for 2024 to be a unicorn year—the kind of investment opportunity that only comes around once every 15 years or so.

There is no question that there will be a flood of distressed properties coming to the market. The question is—which ones are the best investments?

Multifamily is a virtually evergreen sector of real estate because for several years now, incoming supply has not kept up with the demand for apartment units in markets across the country. Although many regions have experienced a high number of deliveries recently, demand persists and is likely to continue on this path for the foreseeable future. For instance, we expect to see more modest and normalized rent growth, a reduction in concessions, and healthy occupancy—specifically in markets with lower supply, such as most of the Midwest.

As an experienced multifamily sponsor, we choose the properties we acquire for our investors based on a variety of factors, some of which include submarket performance, current occupancy, and value-add potential. We’re evaluating assets that are in submarkets that show strong job growth and employment numbers, as well as properties that offer opportunities to significantly improve the living environment for the tenants who live there.

What makes the inventory that is about to come available to investors so appealing is that much of it should be in excellent physical and operational shape. In many cases, the value of these properties hasn’t declined because of lower occupancies, or submarket performance—and often, they have primarily become distressed due to temporary, massive fluctuations in interest rates and cap rates, and sponsors unable to raise the necessary capital required to secure loan maturity extensions and/or interest rate cap replacements.

Working with an experienced sponsor can help alleviate the process of exhaustive research to determine which opportunities are the right ones, and anything that saves time will be the key to smart multifamily investments in 2024.

The challenge

The timing of this unique set of circumstances won’t last long—likely somewhere between the next 12 and 24 months.

Investors will likely have to act quickly to snap up these distressed properties if, and when, they hit the market. Additionally, consideration will need to be paid to securing appropriate financing as well as carefully underwriting for key assumptions such as   payroll, rent growth, insurance, and property taxes.

When you work with a sponsor who has an established industry network and relationships in place to help them identify the best opportunities in the right markets, the experience to analyze their potential upside and any potential pitfalls, and then the property management needed to operate them successfully, you’re one significant step closer to realizing strong returns on your real estate investments.

We’re optimistic about 2024 because, based on our years of experience in the industry and having owned and managed through several challenging market cycles, we believe this year presents a rare window of opportunity for those who see the temporary pricing dislocation, are sufficiently capitalized to perform, and have the courage to act while others are still on the sidelines.  

With more than 35 years of industry experience, Derek Graham is principal and founder of Odyssey Properties Group, a private multifamily investment firm that focuses on long-term upside for its investors.