Borrower view: Douglaston navigates challenging financing, development market

Douglaston Development, a New York-based developer with an extensive pipeline in the multifamily sector, is seeing strong but not insurmountable headwinds as it seeks to move ahead with new projects.

In addition to rising inflation, higher interest rates and a general risk-off attitude, there is a key hurdle affecting the New York multifamily rental market specifically: the expiration of the 421a tax abatement program, said Jed Resnick, Douglaston’s CEO.

“In some ways, it is the best of times and the worst of times for multifamily development, particularly for rental housing in New York. Rent and occupancy have never been higher, although rents do seem to be stabilizing a little and don’t seem to be rising quite as quickly as they were over the past 12 months,” he said. “I have never seen buildings as full as they are right now – maintaining or even approaching or 100 percent occupancy is rare. But it is very difficult to build anything, given all of the regulatory hurdles, and the fact that we lost the 421a tax abatement that makes rental product financeable. So it is very difficult to find rental opportunities without 421a.”

The firm has had to pivot to condo projects in New York absent the tax abatement. “Even so, is it a very challenging time to capitalize and finance those projects because of the broader uncertainty and nervousness in the capital markets. When the stock market is down as far as it is, institutional investors lose their risk appetite,” Resnick said.

Douglaston is getting ready to tap the capital markets for its newest project, which will be one of the last 421a developments to get off the ground. The Brooklyn project will bring online more than 450 units. This, of course, is just a fraction of what is actually needed citywide, with Resnick citing data from the US Census Bureau and NYU’s Furman Center.

“We have added 800,000 residents over the last decade according to census. But according to the Furman Center, we have only added 200,000 units of housing in total, including rental and condo, and that figure does not consider how many units have been taken offline in the same period,” Resnick said.  “Demand continues to grow much faster than we are creating new supply of housing.”

While it is true that New York saw vacancies rise during the pandemic, this quickly recovered. “The pandemic showed us that the temporary exodus was just that: temporary. More people came back in 2021 and 2022 than left in 2020 – there is more total demand for housing now than there was in 2019 because New York is fundamentally a place where people just want to be,” he said. “‘New York is over’ was a popular cliché two years ago but we have proven that New York that is very much not over, that urban living generally is not over.”

The firm is navigating a market where base interest rates are higher and credit spreads have widened substantially, making debt more costly. Additionally, there is more volatility, which makes it more expensive to manage risk and hedge, Resnick added.

“Lenders are nervous at baseline and they should be,” Resnick said. “We are hearing that apart from multifamily, lenders have very little appetite right now because they just don’t know where the world is going. But well-located, well-conceived rental projects are still something they’re interested in and they’re still seeing an over-abundance of housing demand relative to supply.”

Broader impact 

While bullish on the long-term prospects for New York, Robert Dankner, president of Prime Manhattan Residential, believes the expiration of the 421a tax abatement will have a significant impact which is already being seen. The boutique firm focuses on the luxury residential market, although it does work on additional commercial-residential hybrid transactions.  

“New York is a unique market because it is an island and there is only so much you can put here. It is a blue-chip market which will rise faster and fall slower than other markets and you don’t have to convince people to move here. Demand is very strong right now,” Dankner said. “Without the 421a tax abatement, we are going to increasingly see a tale of two markets. The expense factor is going to force developers to provide very expensive apartments, or they simply move in the other direction toward low-income housing, which means the market in between is not going to get service.”  

According to Q3 data from advisory Avison Young, the multifamily market saw a quarter of contrasts from the trailing 12-moth average. At $2.2 billion, the dollar volume of sales was up by 51 percent and the average price per square foot rose by 27 percent to $982. But at the same time, the number of sales dropped by 12 percent to 36. 

The bigger picture, however, is that rising interest rates and inflation will also slow down the pace of development. “The rate environment is creating a cost situation which is challenging for developers to get their arms around. The simple solution is to create more expensive product but whether the market can absorb that in an orderly fashion is something each developer has to ask,” said James Nelson, a principal and head of advisory Avison Young’s Tri-State investment sales team. 

 Avison Young tracked $434 million of sales in the third quarter, a 43 percent increase over the trailing 4Q average. At the same time, the number of sales dropped by 36 percent while the average price per buildable square foot increased by 32 percent to $532.  

Nelson noted the firm is not seeing a lot of sites being sold for rental development because of the expiration of the 421a tax abatement. “The question we ask is why has land gone up by a third over the past year? The big reason is that that majority of the sites are being sold for condo,” he said.