Grubb Properties is finding ways to mitigate risk and create value in today’s rising rate environment, with CFO James Hochman citing its moves to lock in fixed interest rates wherever possible over the past two years and perform more in-depth analysis of the debt needs of each of its projects.
More than 50 percent of the Charlotte-based manager’s total multifamily portfolio is comprised of fixed-rate loans and Hochman expects the firm’s debt will create added value for its investors in today’s rising rate environment, which could be the new normal for the commercial real estate market.
“Once something starts to happen, it continues to happen – we moved from equilibrium to disequilibrium and now, the market does not know where the terminal rate or terminal inflation is,” Hochman said. “But I am pretty sure the terminal rate is not going to be 2 percent in five years.”
Hochman believes opting for fixed-rate debt in a rising rate and inflationary environment will have a significant impact on the firm’s portfolio. He cited a theoretical example of the impact of obtaining a 20-year fixed-rate loan priced at 4 percent while inflation is roughly 5 percent. In an instance like this, he noted the loan is actually performing as an asset as opposed to a liability when considered in the context of inflation and the real cost of borrowing.
The company started to shift toward fixed-rate financing when floating rates were still historically low.
“We were in the process of obtaining life company debt on our Washington and Denver projects,” Hochman said. “I was talking to lenders and asked ‘What is the view?’ And I found people were very focused on floating-rate debt because it seemed so cheap optically. But the risk-reward at those levels seemed crazy.”
Hochman added that it was difficult to opt for fixed-rate financing when floating-rate debt was so inexpensive. “To me, if you buy the low or sell the high, then it’s luck – what you’re trying to do is get a portfolio in a solid position for adverse financial conditions. We have done pretty well as we were pretty focused on fixing debt when it was an option.”
Grubb Properties is focused on what the firm considers to be essential housing, tapping into what it sees as a broader need for housing across the US. The firm has focused more on high-barrier-to-entry markets like New York, Los Angeles and parts of Northern California over the past year or so. “There is a social acknowledgement of that and when we see a hole we can fill and the economics work, that is the kind of thing we focus on,” Hochman said.
Today’s environment is not without precedent but continues to be difficult to navigate, particularly because of the slow speed at which the commercial real estate market moves.
“I worked on a trading floor for a long time and one of the big things I came to realize about real estate is that change takes a lot longer,” Hochman said. “You do not push a red button on a Bloomberg machine and you are out. You can only move as fast as the slowest boat.”
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