What is happening?

The recent fall of Silicon Valley Bank (SVB) and other major bank failures have made headlines across all networks of media. You can read more about why this occurred by clicking HERE. This article will be a good read if you have some basic knowledge of what happened, AND you’re interested in learning about the implications this may have on the real estate market. I will give my thoughts on the outlook for the multifamily sector specifically.

Many critics justly blame poor management practices, the reality is that we are experiencing historically unprecedented interest rate hikes. Increasing the federal interest rate is a monetary policy designed to cool inflation. However, the rate increases have created unintended consequences that result in bank failures and uncertainty amongst the general public regarding the health of our economy.

With that being said, I’d like to put a microscope on the multifamily sector, which has been one of the most high demand asset classes for the past several years.

Outlook and Opportunity

In addition to being tied in with the KW Commercial networking platform, my team and I belong to a group that is well connected to the multifamily investing sector. The sentiment among these experienced investors is not good for the short term outlook. There are a lot of multifamily deals that are in big trouble due to the changing interest rate environment. However, if you’re like me and look at things objectively, there certainly is a silver-lining amongst all the craziness (more on that later)

It is hard to quantify exactly what percentage of the market share will experiencing turmoil with their debt terms, but we will soon find out. Many experts believe multifamily will be a sector with strength and much demand. The issues arising related to debt terms will certainly create opportunities for those wanting to buy great deals.

For the past few years, syndicators have flooded the market taking advantage of favorable deal terms such as no prepayment penalties and floating rate debt on bridge loans for value-add projects. In the recent past, syndicators have been able to acquire, reposition and exit profitably. The results are changing now with soaring interest rates. Ballooning interest payments are stifling cash flow, curtailing investor distributions, and tightening equity positions.

We’re hearing stories about syndicators/investors cutting distributions and discussing margin calls to avoid losses. Both floating and fixed-rate debt are suffering added fallout as rent increases have ceased in the majority of markets. This is impacting net operating income and values, which is a blow to operators looking to NOI as their potential bailout for declining values due to expanding cap rates. Resultingly, this is not good for those trying to refinance or sell their assets soon.

If the feds decide to slow or halt rate increases, this would be an operator’s saving grace. Projected exit strategies could be extended or revamped for minimal damage. However, there will be some syndicators/investors that won’t be able to escape the turmoil caused by unfavorable debt service terms.

Conclusion

It’s no secret that the demand for multifamily has exploded to new levels. The onset of unfavorable debt terms has slowed the mania somewhat, but many remain bullish on the multifamily sector. The short term issues will create opportunity for those who remain diligent. Future volatility will rely heavily on the fed’s monetary policy and the market’s reaction to the consequences of the results.