Apartment Investors Poised to Put $240B to Work

Optimism is back in the multifamily lending space, according to the vibe last week at the National Multifamily Housing Council Conference in San Diego.

RealPage Chief Economist Jay Parsons, a panelist at the event, said this week that while 2024 will be a banner year, many are embracing the theme, “It’s not getting worse” and it will likely “be a slog” both for operations and to find deals.

Attendees and the industry as a whole continue to wait on the Federal Reserve to take meaningful action in the form of cutting interest rates so as to unleash the “$240 billion in dry powder” on some deals.

John Chang, National Director Research and Advisory Services, Marcus & Millichap, speaking on a news video recap this week, said the first interest cut by the Fed will be welcomed (many think it will occur in May or June) but that it’s the second one that will send a powerful message to the banks and the financial markets.

At Fed Chair Jerome Powell’s last press conference held a week ago, he kept rates flat with a lower bound of 5.25% but did again leave the door open to rate cuts later this year.

“If the Fed begins to cut rates, it will signal that it believes inflation is under control, and that the economy is ready for a positive forward nudge.”

Chang said the second rate cut “will really trigger positive momentum for commercial real estate. The second time that rates are cut will define the trend, and it will send a clear signal to lenders that rates are on a downward trajectory.”

Chang said that at that point, lenders may begin to tighten the safety spreads they’ve added to their lending rates.

“Historically, when rates were generally stable, lenders maintained a spread of about 150 to 200 basis points over the underlying interest rate basis, like the 10-year Treasury, but, over the last couple years, as the Fed battled inflation by raising rates, lenders widened that spread to about 300 basis points,” according to Chang.

“They increased their spreads to cover their risk in the volatile upward-trending interest rate climate, but if the Fed clearly commits to reducing interest rates, then lenders can begin to reduce their safety spreads.”

It is here when Parsons said deals could rev up.

“Fundamental demand for apartments is strong and should remain strong – though still short of supply in 2024,” he said. “Improved consumer confidence, a resilient job market plus wages outpacing rents all add up to robust demand. And don’t give too much credit to high home prices and mortgage rates. Apartment renters who would have bought a house likely rented SFR instead.”

At the Apartment Strategies Conference, Chang said that most of the investors were focusing on the recalibration of the market, and what it will take to narrow the buyer-seller expectation gap.

“Several investors indicated that they hadn’t completed a transaction in more than 18 months, but most believe that activity will revive in 2024,” he said.

“No one was saying the market would get back to the level seen in 2021 or 2022, but there was a broad consensus that activity in 2024 will be stronger than it was in 2023.”

Chang said that the investors he spoke with are cautiously optimistic about their ability to get transactions done in 2024, but it’s important to note that they didn’t predicate their activity on a rate reduction.

“They clearly indicated that they plan to get off the sidelines this year and start putting their commercial real estate capital to work in 2024,” Chang said.

He said a lot of the private investors told him they plan to get active soon.

“They believe the institutional capital, which has been ‘pencils down’ for about 18 months, will reawaken at some point in 2024, and the large private investors want to get a step or two head start before the big money comes back into the market.”

This means competition for assets may begin to rise as the $240 billion of dry powder on the sidelines begins to activate.

It probably won’t be a fast transition, but it will likely build momentum over the course of the year, and as that transition takes place, the investment market dynamics and underwriting standards could shift.

Parsons said that values could be bottoming, and cap rates are settling in the mid-5% range.

“Everyone seems to be targeting deals in the upper 5% or 6%+ range, but there are few sellers at those prices for well-located, institutional grade Class A/B apartments,” Parsons said.

“Buyers seem more resigned to the reality that anything priced more favorably is likely to be an older, more challenged asset in less-desirable submarkets. Still unclear how much volume we’ll see but seems likely more than 2023.

Furthermore, Parsons said that investors don’t see many distressed assets hitting the market this year.

“Much will get worked out behind the scenes or extended, while others could be ‘loan-to-own’ situations where debt funds take over the assets and wait out better pricing.”