Surprising resilience: Multifamily investment remains the industry darling

In 2023, multifamily investment volumes fell 61%, according to research from Matthews Real Estate Investment Services. Yet, there is still substantial optimism for multifamily investment, with strong fundamentals creating resilient stability in the asset class, even alongside economic turmoil and reduced transaction volumes.

Samantha Miller, vice president of Mortgage Banking at KeyBank Real Estate Capital, offered deep insights into the state of the multifamily financing market alongside other industry experts at the recent Bisnow Multifamily Annual Conference Midwest. The discerning panel discussion covered the broad state of the current market, financing trends and challenges.

Multifamily Resiliency Amid Obstacles

Multifamily investment volumes have fallen significantly since 2021, but the panelists at Bisnow’s conference have been encouraged by the asset class’s resiliency. Miller recalls widespread expectations of distressed asset sales and a wave of maturities that would provide opportunity for increased capital activity. That wave, however, hasn’t come.

Instead, multifamily fundamentals have resisted the economic trends. Low homeownership rates have fueled an already-hot residential rental market, producing healthy multifamily absorption rates and stabilized rental rates. Last year, the multifamily occupancy rate held strong at 95%, and rent remained positive at 0.3% at the end of the year, according to Yardi Matrix research. “We have a ton of owners and operators saying tenants are staying longer than ever,” says Miller. “We’re starting to see renting become a long-term play for a lot of people, and really the only affordable option. That only continues to increase the demand for multifamily.” In fact, absorption in the first quarter 2024 was the third strongest third quarter of the past 20 years, illustrating the heightened demand for apartments.

Much of this is what the panelists agreed was the dichotomy of the current market. There is a real estate recession in terms of transaction volumes and real estate values. But on the other hand, the S&P 500 and Dow Jones Industrial Average are breaking records and multifamily leasing and rental rates are outperforming expectations. Miller called it a slow burn, but she also highlighted the increase in the total volume in special servicing, which is up 160% across all asset classes. In addition, the availability of distressed assets continues to grow, reaching $85.5 billion at the end of last year, the highest levels of market distress since 2013. That only adds to the dichotomy of the market.

“[The increase in special servicing] shows that there is some distress happening. We’re in a real estate recession,” she explains. “A lot of that still hasn’t come to fruition, and we will see that towards the back half of this year and then into early next.”

Investors Shift to Short-Term Financing

To curb market volatility, capital markets advisors like Miller are shifting to fixed-rate debt structures. As a result, fixed-rate deal activity has increased significantly. According to the panel discussion, in 2022, five-year fixed-rate debt only accounted for about 3% of the GSE’s total debt origination volumes. In 2023, it was approximately 37%.

“That shows the shift toward short-term fixed-rate debt. We are doing almost no floating-rate debt,” explains Miller. “We’re starting to see tools in the permanent financing market that we hadn’t seen prior.” In addition, she is seeing an increase in the assumption of existing debt, particularly on acquisition deals, and improved CMBS activity. In fact, some experts expect CMBS issuances will double this year compared to 2023.

By 2027, $2.2 trillion in debt maturities will come due, but with high interest rates, many borrowers are exercising one- or two-year extensions. Short-term fixed-rate debt is another option borrowers are using to make the deal work today, but looking ahead, Miller sees that there is going to be another wave of maturities in just five years. Borrowers are essentially kicking the can down the road. “That is a later problem,” she says. “Not for today.” Today, capital providers are using all of the tools available to secure funding for clients. While the banking market and construction lending remain difficult, perm, agency, and CMBS are all actively lending. As Miller says, “There are levers that we can pull” to make the deal work. Plus, borrowers are more open to alternative sources of capital. Her team, for example, is pricing out six different scenarios on every deal, whether it is agency, debt fund, life company, or other types of capital.

Lenders Sharpen Focus on Due Diligence

Despite strong multifamily fundamentals and access to alternative lending sources, lenders are still wary of increased investment risk due to economic uncertainty. As a result, lenders are scrutinizing prospective borrowers and requiring much more up-front due diligence on both new and refi deals. This is especially true for the GSEs. In fact, despite FHFA reducing the agencies’ lending caps from $150 billion to $140 billion in 2023, neither entity came close to hitting the cap. Instead, the GSEs closed the year at approximately $50 billion in origination volumes, which experts have attributed to acute examination of every deal.

“We’ve always been careful and gone through all statements and sponsorships, especially with our balance sheet in terms of who we’re lending to, but there definitely has been a heightened sensitivity coming from the agencies in the fraud space,” Miller says. “They’ve had a lot of fraud from both the sponsor side and from the broker community.” That has required much more due diligence on any transaction.

The more extensive due diligence process has increased the timeline to secure financing. Miller said that borrowers should expect longer lead times on deals, particularly when working with the agencies or getting a quote. To adjust for longer lead times, Miller and her team are doing more up-front work, including looking closely at financials, schedules and the quality of the real estate asset. “There is increased due diligence and increased scrutiny from the agencies, so it’s something that we continue to navigate,” she says.

Today, the multifamily lending market is a much different environment than it was just a few years ago. Luckily, strong fundamentals and innovative financing solutions are ensuring borrowers have options, whether they are looking to refinance an upcoming maturity or pursue a new acquisition. Although the process has become longer and more complex, the market has surprised experts and proven resilient.

To discuss the current market environment and what financing options are best for your next project, reach out directly to Samantha Miller or Janette O’Brien.

Visit www.key.com/rec where you can find our expertise in multifamily, CRE market outlooks, affordable and senior housing, and more.