In the last few years, the multifamily finance industry has undergone a rapid transformation. With the increased availability of capital, more institutional investors are getting involved in the sector. As a result, we’re seeing more venture capital funding, IPOs, and other liquidity events in the sector.
The next few years will be critical for the multifamily industry. With interest rates historically low, the industry is capital-starved. To meet market demand, developers are increasingly turning to multifamily projects as a more cost-effective alternative to single-family homes. This trend will continue as more and more Americans flock to urban areas in search of better jobs and lifestyles.
With the increasing interest from traditional mortgage lenders, the multifamily finance industry is poised for even greater growth in the coming years. In this article, we’ll discuss the key factors that will shape the multifamily finance industry in 2022.
With the Fed poised to hike interest rates, the multifamily finance industry will increasingly focus on the yield curve. The yield curve is the relationship between the amount of money investors have to pay for a given amount of income. As interest rates increase, the yield on long-term assets such as bonds and mortgages also go up. In turn, the price of long-term assets drop and the value of equity goes down.
A steepening yield curve can severely complicate the financial picture for owners of existing multifamily properties. If interest rates rise fast enough, developers may struggle to recoup their investment in many projects. Furthermore, higher interest rates will increase financing costs for new developments as well.
One of the most significant trends in the multifamily finance industry is the rise of regulated investment vehicles (RIVs). RIVs are special-purpose financial vehicles that can invest exclusively in the residential real estate sector.
While RIVs used to be fairly limited in number, the federal government’s crackdown on short-term rental companies has led to an expanding investor pool. According to recent data, there are now more than 20 RIVs focused exclusively on the multifamily sector.
RIVs can be a great way for investors to participate in the multifamily sector. However, due to their regulated nature, they may only be suitable for certain investors. RIVs usually require a higher net worth than mutual fund or exchange-traded fund (ETF) investments.
Another benefit of RIVs is the ability to diversify risk. Although most RIVs focus on traditional real estate investments such as direct property ownership and mortgage backed securities (MBS), they can also invest in other asset classes such as private equity and infrastructure.
Partnerships have become an increasingly popular way for developers to finance their projects. When used correctly, MFPs can provide substantial cash flow benefits over the life of a project.
In a typical partnership, one party (the developer) finances and constructs the project and transfers ownership to the other party (often a real estate investment trust (REIT)) at closing. The developer then leases the property to the REIT, which holds it as an investment. The owner of the REIT then leases it to the lessees, who are responsible for paying the mortgage.
The partnership structure has several advantages. First, it allows developers to reduce their overall development risk by leveraging their partners’ equity. Second, because partnerships are pass-through entities, they are not subject to corporate income taxes. And finally, partnerships can increase returns by leveraging the pooled cash flow of multiple units.
Many developers have begun exploring the benefits of financing their projects through financial corporations instead of partnerships. Unlike partnerships, which are formed solely for the purpose of sharing risk and returns, corporate entities can be used for a wide range of purposes.
In an interesting twist, some developers are in the process of creating special purpose corporations that exclusively finance and build residential real estate. These corporations can be a less expensive alternative to insurance-backed bonds.
Some MFCs can benefit from tax-advantaged status as well. Through this route, developers can reduce their overall project cost, limit their equity investment, and still capture tax advantages such as the deduction for interest payments and capital gain dividends.
As the demand for residential real estate increases, developers will increasingly turn to project financing in order to meet this demand. However, the amount of capital available for projects is likely to be limited. This will place greater emphasis on the ability of developers to successfully compete in the increasingly tight multifamily sector and therefore need to underwrite deals with strict assumptions and guidelines.
Investors need to be able to evaluate deals faster than the competition and more accurately bid on deals. Automated underwriting tools like Clik.ai can help investors evaluate Cash-to-Cash returns, Equity returns, Rent roll Unit mix, and cash flow analysis much faster using AI. This helps avoid any underwriting errors as well.
To be successful, developers will need to be more selective in their selection of projects. They will also need to carefully consider which monetization channels they will pursue.
With project financing becoming more competitive, multifamily investors will also need to be more creative in their monetization efforts. This will likely involve exploring nontraditional techniques such as creative financing, securitization, and project partnerships. Faster underwriting will help investors in acquiring and investing in properties.
The multifamily finance industry is undergoing a major transformation. Existing players are expanding their offerings and new players are entering the market. This should result in even more competition and innovation in the sector. Investors are more equipped with tools like automated underwriting and multifamily AI and all the right technology stack to maintain their position and competitive advantage.
However, the ability of developers to access capital remains challenging. This will likely keep overall activity levels in the sector depressed in 2022.
If you’re an investor tapping into the growing demand for multifamily investment, now is an excellent time to get started with automated AI and technology for evaluating deals faster.