Short-term borrowing rates are at their highest level since January 2008 after the Federal Reserve raised the key rate another 0.75 percentage points to its target range of 3.75% to 4.00%. The price hike in early November ignited an already burning appetite for notional debt among multifamily investors.
” The biggest risk in closing new deals today is extreme volatility in interest ratessaid Matt Frazier, CEO of Jones Street Investment Partners, a Boston-based real estate investment firm focused on multifamily properties across the Northeastern and Mid-Atlantic regions of the United States. “By the time the deal is done and the debt is fixed, no one knows what the interest rate will be. If we can remove that risk completely from the equation, we can focus on the fundamentals.”
Jones Street, which owns and operates a portfolio of approximately 4,400 apartment units, has approximately $1.3 billion in total assets under management and is actively trading using its financing preconditions. Frazier points out that they are scooping up quality properties with fixed-rate debt. At the same time, the company continues to analyze its portfolio on a regular basis, but is scrutinizing properties with potential debt further.
“As a buyer, we are interested in trading attractive bonds, and as a seller, we are very concerned about the capital structure of our assets,” he says. “In a high interest rate environment, there is value in a hypothetical loan at a lower than market rate. It helps the marketability of that asset. We can expect it to attract a pool and generate a higher sale price.”
Just two weeks ago, Jones Street closed a suburban infill apartment community of over 350 units outside Philadelphia for more than $100 million. The deal included a notional debt with a remaining term of 9 years and an interest rate of less than his 4%.
By underwriting the loan, Frazier said, the company was able to mitigate interest rate risk and ultimately underwrite a higher leveraged return than otherwise.
The attractiveness of the assumed loan is the length of the remaining period, Expected holding period of investorsFor example, short-term holdings may not complement the hypothetical prepayment terms of a loan.
“It’s unique to the buyer. Beauty is in the eye of the beholder,” said Frazier, adding that Jones Street is keen to take on longer terms due to its long-term holding strategy.
Jones Street would have been interested in Philadelphia real estate without the supposed loan, but existing debt made the deal “very compelling,” according to Fraser. rice field. If the company needed new funding in today’s interest rate environment, the debt would likely cost him more than 5.5%, he speculates.
“One of the first questions I ask anyone currently in the market considering a potential transaction is, ‘Is there any debt on the property? says Mr. “They look at four things: the amount of debt, the interest rate, the length of the remaining term, and the remaining interest-only term.”
Low rates and market-beating conditions
Geopolitical and economic uncertainties, combined with an increase in the cost of capital resulting from the rising interest rate environment, dampen condominium sales activityBanks, pension funds and even some alternative lenders are holding back on lending, making multi-family deals harder to complete. As investors seek smart and creative ways to trade, many turn to the assumption of loans.
“In a high or rising interest rate environment where available credit is strained, there are several reasons, including the ability to assume in-place debt at potentially lower interest rates, market-beating conditions, reserves, and lender requirements. So the loan assumption is attractive to borrowers,” said Assistant Vice Acquisitions at Atlas Real Estate Partners, a private real estate firm with offices in New York City and Miami that focuses on multifamily investment and development. President David Le said.
The loan assumption is attractive to investors because the fixed rate debt secured over the past few years is very attractive compared to the current high interest rate environment. If the loan starts before his June 2022, the assumed interest rate should be much more favorable than what borrowers can get today.
Additionally, loan assumptions often allow sellers to avoid upfront penalties, defeasance, or lockout periods. This could be reflected in lower purchase prices for buyers and a more favorable all-in base, Lu noted.
more complex than expected
The complexity of loan prerequisites varies by lender and type of loan. Some prerequisites are more restrictive than others. The buyer’s track record and experience are an important part of the financing prerequisites.
Also, although loan documents have “underwriting potential” built into them, the lender has discretion in approving. In other words, there is no guarantee that the buyer will be able to accept the loan.
“There is also the risk of not being approved by the lender, especially if there is not enough time left to close or if the funding contingency is waived, we may abandon the deal,” Le said. increase.
This is especially true today given that some lenders, especially banks and debt funds, want you to pay off the loan and get that money back.
“Lenders are motivated to force lower interest mortgage repayments in order to originate higher interest loans,” Le notes. “More importantly, lenders want quality loans with quality borrowers to maintain a quality loan pool. [They’re] If you consider a new buyer an upgrade to your sponsorship, you are more likely to approve the assumption. ”
Thanks to its track record and experience, Atlas successfully underwrote in-place debt last year when it acquired over 800 multi-family homes in the secondary market. That debt, combined with huge deal sizes, has forced many local players out of the market, according to Le.
Anyone who thinks getting a loan is easier than getting a new loan will be disappointed. Jones Street’s Frazier says the underwriting and approval process is similarly rigorous and lengthy, taking 60 days or more. Most lenders require the same or more credit from new borrowers.
Loan assumptions typically lead to lower leverage (loan to value). The maximum loan amount is usually determined by the LTV or the property’s income to pay off its debt, whichever is lower. Today, according to Frazier, LTV testing “doesn’t mean anything.” “Right now, the constraints on loan returns are the cost of debt and the ability to repay it,” he says.
Low leverage impacts returns and requires higher equity contributions to pass on loans, said James Nelson, principal and head of Avison Young’s Tri-State Investment Sales Group in New York City. Host of “The Insider’s Edge to Real Estate Investing” podcast. Low leverage usually only works with patient buyers with a long-term view. This is because his low LTV upon acquisition may negatively impact short-term returns.