I saw a headline this week that really grabbed my attention:
Quite a bold statement from the largest commercial real estate firm in the world.
But bold as it may be, feels directionally correct.
You know that gut feeling you sometimes get, where you just know something's up? That's how I feel about the multifamily market right now.
I’m not as bold as CBRE to officially call a bottom. But if we’re not at the bottom, I sure do think we’re close. A combination of anecdotal and hard data suggest we've turned a corner.
Market Sentiment is Shifting
From the CBRE report referenced by GlobeSt (emphasis mine):
“Market sentiment has improved significantly, as many investors believe that values have bottomed,” said Kelli Carhart, leader of Multifamily Capital Markets for CBRE. “Investor conviction remains strong, buoyed by stabilizing fundamentals and strong absorption and a decreasing delivery pipeline.”
Further, John Chang of CRE brokerage Marcus & Millichap said in a recent research piece:
The real estate investor buzz has already begun. I can see it, feel it, sense it. The market is beginning to turn. The investment climate is thawing.
Chang goes on to say that a combination of:
Fed Chair Jay Powell’s dovish (inclined to cut rates) comments last month
The weak July jobs report
really flipped the investor sentiment switch.
And sentiment is further buoyed by a widening spread between the yield on 10-Year Treasurys and average cap rates:
For apartments, this spread has been below the mostly-psychological hurdle of 200 basis points (2%) for the last two and a half years. The spread has finally widened back the point where investors feel comfortable taking on the risk associated with apartment buildings (as compared to the zero-risk Treasurys).
Chang also points out that large institutional lenders are seeing their credit spreads come down, meaning loan rates for borrowers are also decreasing, further boosting sentiment and spurring deals.
The Thawing Market
In addition to some of the hard data, there’s good anecdotal evidence for a thawing market.
Personally, I’ve had more deals come across my desk in the last 6 months than in the previous two years. And while there still aren’t many firesales, pricing has been more reasonable than in the recent past. I’ve heard similar stories from other multifamily investors.
And to the point above about loan rates coming down, I know another investor about to close a $40M deal with a rate in the low-5% range.
All signs point to us being at, or very near to, the bottom of pricing in multifamily, reinforcing my conviction that now is the time to buy. As I wrote a few weeks ago, I think we’re setting up for a generation buying opportunity right now — a combination of ongoing inflation and coming rental unit shortages means values are likely to rise significantly over the next decade.
Don't Let Fear Hold You Back
There’s no doubt that some deals done at the market's peak in 2021 to 2022 have faced challenges. I know several passive investors who have lost most, if not all, of their investment in some deals of that vintage.
This has led to a split where some passive investors are receiving bad news from existing deals, souring their desire to invest in new ones.
However, the environment has changed. It’s much more favorable than two years ago, with values off their highs and credit conditions loosening. Even for those who have faced difficulties with past investments, now is not the time to be gun-shy, as hard as that may be. It's time to seize the opportunity to invest in good deals that make sense.
Focus on Cash Flow
What makes sense? I’m encouraging the passive investors I talk to to look for deals that generate cash flow today.
It doesn't have to be much, but 2 to 3% cash on cash returns in the first year are a solid starting point. It increases the likelihood that there will be cash flow in future years, which directly contributes to the future value of the property.
Because of this, deals with first-year cash flow tend to be lower risk than those that take several years to start generating.
An Inflection Point
It’s becoming more and more clear that we’ve reached an inflection point in the apartment market. I think it’s time to get aggressive on the acquisition side, even as deals from a couple years ago are still working through their issues.
Investment losses are never fun or easy, and it can be hard to take action after going through a rough period. "Once bitten, twice shy," right?
But reflecting on the last down cycle in real estate, it was the investors who were buying at the bottom in 2012 who ended up doing very well. Some of the wealthiest investors I know were among the most aggressive buyers then. That isn’t just correlation, it’s causation.
So don't let fear hold you back. Be circumspect in your investments – be picky, and only invest in things that make sense today. But don’t sit on the sidelines. Learn from any recent mistakes, and continue to put your money to work for you.