Our Perspective 8/ 26/ 2019

Texas Multifamily Finance Updates: Population growth of 14 percent spurns apartment activity

As regards new construction, what is the biggest point of optimism for the multifamily finance market in major Texas cities right now, and what is the biggest point of concern? 
Demographics and costs. Demographics continue to support the current construction pipeline as people and corporations continue to move to Texas given favorable business environment and low cost of living. Since 2010, the population has grown by 14 percent with the DFW adding over one million people.

Costs are always a concern for developers and the uncertainty from the trade war and tariffs has created a tough environment for general contractors to lock in pricing. However, lumber prices on garden-wrap and podium product has allowed general contractors to keep costs inline minimizing the net effect to developers. On the Chicago Mercantile Exchange, lumber futures contract prices have fallen by nearly 45 percent from highs in the summer of last year to around $350 per thousand board feet. 

What kinds of leverage ratios and terms are we currently seeing with Class A multifamily construction projects, and how that the needle moved on that lately? 
We continue to see efficient capital markets for multifamily construction. Depending on the experience and strength of the developer, lenders continue to provide 65-75 percent of construction costs. Floating rate spreads over Libor are attractive especially considering the market is pricing in an additional 50-75 basis point decrease from the Federal Reserve in 2019 with no increases in the forward curve for the next 10 years. For borrowers, this means that rates will likely decrease during construction and lease up.

Construction loans have been made more viable by the availability of multiple exit scenarios. The sales market has been robust with recently completed projects selling at competitive cap rates. In addition to a sales exit, lenders have been willing to refinance out construction loans during lease-up “Pre-Stabilization” providing developers an avenue to own projects long term and in certain instances return a portion of the equity. Life companies are providing permanent loans for projects in lease up with minimal premium in the rate compared to stabilized projects.

How significant have the effects of Federal Reserve policy in 2019 been on demand for construction financing for multifamily projects?
Very limited effect. The cost of capital remains attractive to borrowers and is not driven by the Fed’s decisions to cut the target rate.

The inversion of the yield curve caused and the dramatic decrease of the 10-year treasury has created a flurry of activity from borrowers and lenders for fixed-rate loans. Given that short-term rates, i.e., the Fed Funds rate, is not directly correlated to the long end of the curve, permanent financing remains very attractive for our clients.

Life companies are providing long-term construction financing in the four’s for 50-65 percent of cost loans with the ability to upsize the loan upon stabilization. 

How much growth have you seen/experienced in demand for construction financing for affordable housing, and how do you see that growing in the future?
It is still a small part of the market. Obviously, there is plenty of demand for the product across the country and the capital markets are extremely efficient on existing work force housing product. Unless a project is significantly subsidized, construction costs do not support the equity returns required to build for affordable renters (80 percent or less AMI).