Berkshire Residential Investments: Doubling down on the multifamily markets

Jon Pfeil, managing director, senior portfolio manager and head of debt investments at Berkshire Residential Investments, discusses how the firm has strengthened its borrower relationship and expanded its lending platform.

This article is sponsored by Berkshire Residential Investments

Jon Pfeil
Jon Pfeil

Berkshire Residential Investments is gearing up for another active year after closing a trio of debt and equity funds in 2021 and expanding its US commercial real estate lending platform as borrower demand rose during the covid-19 pandemic.

Over the last 12 months, the firm held final closings for its debt and equity funds, representing commitments of more than $6.2 billion for short- and long-term multifamily- and residential-focused strategies.

Berkshire’s multifamily debt-focused funds, the $2.72 billion Berkshire Bridge Loan Investors II & II-A and the $1.85 billion Berkshire Multifamily Debt Fund III, are tapping into historical demand for an interest in multifamily properties that is driven by a continuing supply-demand imbalance.

“Multifamily demand is at an all-time high, driven by job growth, a housing shortage and a growing affordability gap between owning a home and renting. Our expectation is that top-line rent growth will outpace inflation this year and lead to further gains to the bottom-line cashflows of multifamily assets,” Jon Pfeil, managing director, senior portfolio manager and head of debt investments at Berkshire Residential Investments, tells Real Estate Capital USA. “Right now, there is unprecedented demand – multifamily occupancies are over 97 percent nationally.”

Berkshire believes it will take at least two years for the markets to work through the housing shortage: “In light of these factors, multifamily has strong fundamentals and, despite some of the volatility in the market, there are still tailwinds for the multifamily industry.”

What is Berkshire’s high-level view of the impact of higher inflation and how that is affecting investor and consumer behavior?

Throughout the pandemic, and now an inflationary environment, multifamily has proven its resiliency. Structurally, rolling annual leases allow multifamily assets to capture inflationary pressure on revenue. The monthly cost of owning a single-family home has increased more than 30 percent in the last year compared with roughly 15 percent for an apartment.

Investors, whether equity or debt capital markets, have recognized the resiliency of multifamily, and the proof is in the numbers. Multifamily investment sale activity was at an all-time high in the first quarter of 2022.

Commercial real estate collateralized loan obligation issuance was up more than 70 percent year-on-year, and 80 percent of that issuance was multifamily. The multifamily market’s liquidity has significant depth – perhaps cliché, but we’ve certainly seen a flight to quality.

Whether it is the resiliency it experienced during the pandemic or in today’s inflationary environment, multifamily has benefited more than any other asset class over the past two years.

What are your investors’ concerns about the market right now? Also, how are these sentiments affecting the way they’re deploying capital? What sectors and strategies make sense now compared with two years ago?

Though we feel confident in the underlying fundamentals of multifamily, we are assessing what we believe could be mid- to longer-term impacts of rising rates and inflation. We’ve been disciplined in our approach to underwriting and have made adjustments to exit cap rate and interest rate sensitivities.

The hallmark of our MF1 lending brand, which is a joint venture with Limekiln Real Estate, has been on high-quality multifamily-only credit. That has never wavered, but we are focused to a greater extent on the long-term liquidity of our assets – whether that is larger, more liquid markets, high-quality institutional collateral or, perhaps most important, well-capitalized sponsors that are the ultimate form of liquidity.

What markets are the most compelling?

We’ve had tremendous success in the Sunbelt, but were a first mover in the gateway, urban core markets very early on in the pandemic. The recovery in those coastal markets certainly lagged those in the Sunbelt, but has been gaining momentum. We’ve aligned ourselves with strong sponsors in markets like New York City, San Francisco, Los Angeles, and Washington, DC, and are confident in the long-term viability of those markets.

Much of your lending activity is informed by the equity business and vice-versa. How do you leverage this platform? And how important is it to be able to look into your own portfolio and have boots on the ground executing on the capital structure?

Leveraging Berkshire’s vertically integrated platform is a key differentiator in our process, whether it’s direct lending through MF1 or our participation in the Freddie Mac K-Program. We have equity and debt investment professionals located throughout the country who not only provide us with valuable on-the-ground insights, but take part in the underwriting and credit process, including physically seeing every asset in our debt investment portfolio.

But it goes beyond our equity business; we integrate our in-house property management division into the process, as well. They have real-time operational data, as well as deep knowledge of market and submarket drivers, not to mention experience with most of the sponsors we do business with. To round it out, we also rely heavily on our in-house research and analytics group, as well as subject matter experts such as our heads of development and senior housing.

Our investment committee is composed of individuals who work across all of these platforms and there is a tremendous amount of communication and information sharing. As a lender, it gives us an edge.

How does having real-time or near real-time information help as you evaluate lending opportunities?

It’s invaluable, especially in a market that is moving as quickly as this one. We don’t have to wait for backward-looking data; we can call our equity investment and property management teams to get up-to-the-minute data. But more importantly, that data comes with context. It’s not just a data point in a report; it has color and nuance to it. A five-minute conversation with one of our property managers to discuss an asset we’re thinking of financing down the road from them is far more valuable than a submarket report.

You were active during the pandemic as a lender. How did your ability to evaluate your multifamily equity portfolio allow you to get back into the lending market?

MF1 was the first lender back in the multifamily bridge market and that has everything to do with our equity and property management verticals. While most of the world was wondering if 50 percent of tenants would miss rent payments, we had managers on the ground telling us that performance was better than reported and the outlook was far better than most were predicting. That gave us the confidence to continue lending, and it really was the single biggest milestone in MF1’s growth. We never left the market; we always maintained confidence in the multifamily market and our sponsors.

We were most interested in what our property management platform was saying because they were able to provide us with insight into what residents were doing. And we found residents were paying their rent which meant cashflows were pretty stable. Having that information gave us confidence to go out and continue to lend.

It was a really opportune time to be a lender because we had very little competition and we were able to structure and price our loans really well.

What will the remainder of the year bring in terms of transaction volumes/expectations?

We’re far ahead of our pacing in 2021, which is hard to believe. Last year MF1 originated $7.3 billion, and we’re expecting to exceed those levels this year. We operate a floating-rate strategy and, while there is macro-volatility and concerns globally about the war in Ukraine, inflation and interest rates, the multifamily market itself remains healthy.

I think what is going on has pushed a lot of capital into multifamily as part of a flight to quality. Investment activity is still robust. Our MF1 platform is now more than four years old and we are starting to see more repeat business. More than 60 percent of the business we are doing today is repeat business and we have established ourselves as a pre-eminent multifamily bridge loan lending platform. We’re doing much larger loans with much larger institutional clients and continuing to build a track record of executing very well for our sponsors.

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How are you integrating ESG strategies into your overall portfolio?

This is something we have been very focused on and very serious about for the last few years.

We recently rolled out a comprehensive ESG program for our debt investments with an emphasis on furthering our work to reduce risk and maximize returns. We started in 2020 with a gap analysis and strategic roadmap to guide us in our efforts to integrate industry best practices into our lending and debt investment efforts. In 2021 we finalized a Sustainable Lending Policy, a borrower survey and due diligence scorecards for our debt investments.

These products take a detailed look at a variety of ESG factors, from affordability to utility efficiency and climate risk, helping us assess ESG performance for each investment. Through our BerkshireTHRIVE program, ESG is at the forefront of how we think about investments at Berkshire. This is a critical element to our platform, and we are committed to its successful execution.