Commercial Magazine

The downturn places clamps on multifamily fundamentals

By Victor Whitman

The U.S. apartment sector, once thought to be nearly recession-proof, is facing its first turbulence in many years. Buoyed by demand from the sizable generation of millennials as well as near-record employment, the key issue for the apartment sector was undersupply, particularly with respect to affordable or midrange apartments for young adults getting started. 

In the era of COVID-19, however, this has changed. In a July 2020 report, Fannie Mae indicated that the multifamily-housing sector has its first demand problem in years. Fannie predicted that, through the first half of next year, multifamily vacancy rates would rise and rents would decline. Furthermore, negative net absorption was expected to occur in the second half of 2020 with an estimated 34,000 more available apartments than renters. Likewise, Fannie projected that investment sales would slow down until the national economic situation becomes clearer. 

Fannie Mae chief economist Doug Duncan told Scotsman Guide late this past July that multifamily owners will have to ride out several months of high unemployment. “We still see unemployment at the end of this year in the 8% to 9% range,” Duncan says. “And even at the end of 2021, around 7%. So, we’re not out of the woods by any stretch.”

Unlike the residential home-purchase market, the lost jobs from nonessential businesses cut to the heart of the rental-housing market. The bulk of these jobs were for hourly wage service-sector workers, or people who tend to rent. Millions of families have been relying on government relief checks. Meanwhile, apartment owners have sought forbearance to put their mortgage payment on hold. Duncan says the federal government will likely need to extend this relief through the end of 2020 to soften the blow for multifamily.

“If, for example, the economy takes a second leg down and small businesses have to lay people off because the business is not coming back, then those jobs have just gone away and are not coming back,” Duncan says. “The question is, how do those households maintain their rental spaces?”

Our belief is that people always will need a place to live, especially during these uncertain times when people are a little bit more mindful with the economy.

— Roy Kim, Principal, Oak Coast Properties

Despite these issues, investors were still purchasing properties this past summer as the pandemic raged on. In Colorado Springs, Colorado, for example, Los-Angeles based Oak Coast Properties bought a 200-unit, 20-building complex with plans to invest another $1.5 million in renovations.

“Our belief is that people always will need a place to live, especially during these uncertain times when people are a little bit more mindful with the economy,” says Roy Kim, principal of Oak Coast Properties. “A lot of people aren’t really buying homes and they’re still looking at affordable, workforce housing as an option. So, we kind of feel that, in the markets that we’ve looked at, there’s not enough supply to absorb the demand.”

Kim acknowledged, however, that financing multifamily properties through the government-sponsored enterprises is more challenging. Oak Coast Properties also has become more conservative when evaluating investment opportunities, and it looks carefully at the economies in individual cities.

“We’ve been anxiously watching collections and how properties are performing,” Kim says. “For the last three to four months, the federal stimulus money has been helping a lot of our residents to make payments. We’re in an uncertain situation right now, where it is really hard to tell which direction it’s going.”

The coronavirus pandemic also has exposed a multifamily supply imbalance. Over the past several years, owners and developers have tended to favor luxury apartment projects, as well as trying to capitalize on the perceived preference of millennials to live in and around city cores. For the foreseeable future, however, fewer people will have the means to afford these rents. 

Given the pandemic, many renters may want to move away from city centers into the suburbs. Recent data also appears to suggest that the higher-end segment of the apartment market was being hit hardest. Immediately after the pandemic struck, rents declined over 14-day periods by as much as 0.7% among higher-end property types, whereas more affordable types saw almost no changes, Fannie Mae reported.

Washington, D.C., for example, is among the cities that is likely oversupplied with luxury units, says Jeff Levin, CEO of the D.C.-based Specialty Lending Group. 

“Class A rents are falling quickly because people don’t want to live in these brand-new buildings with tons of amenities,” Levin says. “They want more personal space.” 

Levin says, however, that the multifamily sector is not in the same dire condition as the hotel sector, where it is extremely challenging to get a deal done. He says it is still fairly easy to finance even high-end multifamily properties that are now somewhat out of favor. Lenders have typically reduced loan-to-value ratios by 5% and borrowers are still likely to get up to 65% to 70% of an apartment building’s value financed via debt. Interest rates also are low, Levin says, although he expects the market to slow down for some time and for luxury-property owners to be in for a bumpy ride. 

“I see rent concession continuing to be the norm,” Levin says. “Deals that were once pretty cozy are going to be difficult to get permanent financing (for).”


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