ST. LOUIS, MISSOURI (January 9, 2023) - Multifamily investment markets have been on a bit of a roller coaster ride in recent years. First came the uncertainty surrounding COVID-19, then cyclical highs were achieved in late 2021 and early this year when vacancies tightened throughout the country, rents spiked, and multiple sources of capital were abundant, and lenders were competing to place debt. In the Midwest, apartment vacancies averaged about 4.5 percent at midyear 2022, and annual rent growth topped 10 percent in nearly every market in the region.
The current environment has a different look and feel than just a few quarters ago. Several consecutive interest rate increases have taken much of the wind out of the sails of the multifamily investment sales market and the economy as a whole. Inflation has dipped from the 40-year highs recorded earlier this year, but the threat of rising prices will continue to support a more restrictive Federal Reserve. The prospect of a recession—even a modest one—is causing many market participants to take a more cautious approach.
Despite these challenges, multifamily properties remain a preferred asset class, buyers are continuing to find investment opportunities, and deals are crossing the finish line. After a strong first half of the year, transaction activity has slowed as a growing gap between buyer and seller expectations has occurred. In the coming months, the hope is that pricing expectations will begin to realign, particularly if the costs of capital begin to stabilize.
Across the Midwest markets that Northmarq tracks, investment activity in the third quarter totaled approximately $2 billion, although nearly half of that total occurred in just one market: Chicago. Outside of Chicago, transaction activity has slowed as investors are exercising greater caution and lenders are offering less favorable terms than at the beginning of the year. To this point, in the fourth quarter, transaction volume is expected to lag behind levels from earlier this year.
The good news is that there are still buying opportunities and we have seen a steady flow of inventory available throughout the fourth quarter. As of early December, our Midwest multifamily team had closed 24 apartment sales year-to-date, spanning 5,200 units for a total volume of $580 million. This total includes the fourth quarter sale of a four-property, 1,288 -unit transaction in Madison, Wisconsin, one of the largest transactions across the region in 2022.
Owners reposition portfolios; private capital remains active
Inventory is being fueled by different factors. Some owners are seizing an opportunity to reposition portfolios and sell assets they may not want to hold through a downturn. In other cases, owners that may have planned to sell an asset in 2023 or 2024 are bringing those plans forward in case prices were to weaken further over the next 12 to 24 months. And sellers are finding that there are still buyers in the marketplace, particularly in the private capital sector.
In early December, our team closed a 128-unit property in Omaha that was roughly $15 million and garnered 25 offers. It was one of the most competitive deals we have seen all year from the number of tours, registered buyers, pricing, and overall execution from our buyer. While the profile of the deal was smaller than what most traditional “institutional” groups would be attracted to, the level of competition between buyers on a national level was encouraging.
In some cases, we have seen that buyers willing to get comfortable with less leverage are finding opportunities to assume existing debt at a lower than market LTV. Our team recently brokered the sale of a 150-unit apartment building in Missouri for $19.5 million. In that case, the buyer assumed Fannie Mae debt at roughly 40 percent LTV at a rate of 3.3 percent with one year of interest only debt service remaining. What also is notable about that transaction is that while the existing loan had to be assumed at or around 40 percent leverage (due to a lockout period through 2023), it attracted 15 offers with the winning bid coming from a private East Coast office.
Agencies remain liquid
Despite market volatility, there is still attractive non-recourse debt sources to finance multifamily assets. While 2021 may have been the year of bridge execution, Fannie Mae and Freddie Mac are now leading the way again, and both will continue to provide liquidity to the multifamily market with fresh caps for 2023 set at $75 billion each.
Ultimately, the key to navigating the multifamily market in 2023 will be finding both buyers and sellers that are motivated to transact. Although that is more difficult to do in the current environment, there will continue to be opportunities moving forward into 2023.