The US multifamily market has by most measures been the darling of the commercial real estate sector. But there is a specific subsegment of the market – mainly highly leveraged acquisitions completed in 2020 and 2021 with floating-rate debt – that could see a reckoning in the coming year.
“We are seeing a major difference between multifamily properties with floating-rate debt and multifamily properties with fixed-rate debt,” says Jilliene Helman, chief executive of Los Angeles-based online investing platform Realty Mogul.
“We are finding that sellers with fixed-rate debt are not going to market… and are largely planning to hold onto assets with a plan to wait out whatever economic dislocation there is,” Helman says. “But owners with near-term maturities on floating-rate loans are either taking these assets to market to try and sell them or trying to obtain an extension or refinance their loan, which typically only will happen if they can put up additional capital.”
Sponsors on the Realty Mogul platform have been primarily focused on the apartment sector and members on the platform have invested in about $6 billion in property value, or about 30,000 units. The firm is expecting to see sponsors offer opportunities for members to invest in well-located, functional assets that are weighed down by their debt loads, Helman said.
“I believe the distress in the coming cycle will be related to financial structure rather than property operations, which are by and large still healthy. Due to floating rate debt, distressed sellers may be willing to sell apartments at a basis they would not have considered before the rapid interest rate hikes.”
By the numbers
The widely reported $1.9 trillion wall of commercial real estate maturities expected over the next three years breaks down to about $728 billion of loans slated to mature in 2023. There is another $659 billion and $539 billion of loans slated to mature in 2024 and 2025, respectively, according to data from Newmark.
The New York-based advisory also tracked a 52 percent year-over-year drop in origination volume, according to a Q3 2023 report released in late August. For the multifamily sector, this decline stands at about 58 percent, Newmark found.
Multifamily lenders and investors who spoke with Real Estate Capital USA are almost universally in accord in their analysis of this situation, with market participants agreeing there will be situational distress in the multifamily sector. Investment managers on the debt and equity side are gearing up to tackle the situation in several ways, including creating short-term structured credit platforms to originate mezzanine debt or preferred equity.
Others, like New York-based Slate Property Group, have been quietly building out their platforms for the past few years to be able to decide where to participate in a multifamily deal instead of being constrained by being either a debt or an equity investor.
Martin Nussbaum, Slate’s co-founding principal, says the multifamily specialist has been lending in the sector for several years in addition to development, asset management and traditional equity deals. Although the firm has been most active in the New York metropolitan area, including parts of Westchester and New Jersey, it has expanded its platform into markets in Florida, California, Tennessee and the Carolinas.
“We have been very active as a construction lender over the past three months, lending in the space where banks have been constrained,” Nussbaum says. The firm has closed about $600 million of bridge-to-permanent financing loans and has about another $400 million in its pipeline. “Our loans right now have terms as short as 16 to 18 months or as long as 24 months.”
Slate also sees an opportunity to provide structured equity to sponsors who need to bridge financing gaps.
“We are starting to see more situations in which sponsors have maturing loans and need to pay down that loan by 10-30 percent,” Nussbaum says. “There is a hole in the capital stack that we are able to step in and fill and we assume that kind of opportunity will be more plentiful as the market continues to struggle, given where rates and proceeds are and requirements on new debt yield tests.”
According to August data from New York rating agency KBRA, the delinquency rate for multifamily loans in commercial mortgage-backed securities deals stood at 2.88 percent at the end of August, an eight-point uptick on a month-on-month basis. By comparison, there was an overall delinquency rate of 4.16 percent for KBRA-rated deals.
Alex Killick, a managing director at Washington, DC-based CW Capital Asset Management, says the investment management company is starting to see an increase in troubled multifamily loans in its CMBS asset management business.
“There is a major difference between multifamily properties with floating-rate debt and multifamily properties with fixed-rate debt”
“Much of the distress we are seeing is very office-concentrated, which is not a surprise, but there is also a bit of multifamily creeping in. This distress, however, is often solvable,” he says.
The Connor Group, a Dayton, Ohio-based multifamily investment and management company, is gearing up for what it believes will be a broad swath of opportunities to buy properties where the debt is distressed as the markets reset.
But Larry Connor, founder and managing partner, does not believe this is likely to happen before 2024.
“If people say they know what is happening, they are being naïve,” Connor says. “We do think that 12 months from now, things could be calm, and someone could have waved the all-clear flag and we will see a more balanced market.”
The firm, like many of its peers, anticipates being able to put out capital as more sponsors near loan maturities and have to act. “We are anticipating that managers will have debt coming due and problems refinancing it. Many of the problems we are expecting managers to see are financial, not operational,” Connor adds.
While there has been a pullback among bank lenders, Connor reports the same bifurcation that other managers are seeing – good liquidity for well-capitalized sponsors. The firm recently acquired a property in Charlotte, North Carolina, close to Lake Norman, and had six banks competing for the loan. This kind of liquidity will be a boon as the firm moves ahead with its value-add acquisition strategy, he adds.
“The regional banks don’t want to have individual exposure much above $50 million, but will offer leverage of 70-75 percent,” Connor says. “If you’re a regional bank – and many have held up better than we think – you have to put money out.”