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In this Issue
 The Credit Markets and Fannie Mae
Builder Confidence in Rental Market Slips in 2Q
The Future of Cap Rates: Is a “Correction” in Store?
Chicago Downtown vs. Suburban Rental Growth
The Credit Markets and Fannie Mae
By Brian Cronin
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| Brian Cronin |
The sub prime woes are not front page news anymore. The CMBS market has settled down with fewer players, significantly higher spreads and more realistic underwriting standards. The credit crunch is not over yet.
There are a significant amount of “loans on the books” that the Wall Street firms need to securitize and sell off, with some estimates as high as $40 billion. Additionally, the conduits are having a difficult time closing loans while gauging the interest level of the buyer’s market. The next large pool of loans to be securitized will tell a major part of the credit crunch story.
Through this all, however, Fannie Mae has proven to be resilient.
Fannie Mae was established to provide liquidity in the mortgage marketplace via the purchase of not only single-family home loans, but also multifamily loans from banks, mortgage companies, etc. The credit crunch is still in process as many Wall Street Investment firms are sitting on the sidelines and not buying CMBS pools and not lending because there are no buyers – a vicious cycle if there ever was one.
The good news for borrowers is that capital is still relatively inexpensive and Fannie Mae is a buyer of their own mortgages, thus preserving liquidity in a market that is still settling down. Given Arbor’s benefit of having the Fannie Mae DUS (Delegated Underwriter and Servicer) License, Arbor is in all markets at all times.
Brian Cronin is a Director in Arbor’s Wayne, NJ office. He can be reached at bcronin@arbor.com.
Builder Confidence in Rental Market Slips in 2Q
Builder confidence in current rental market conditions fell in the second quarter of 2007 amid concerns that an excess supply in the for-sale market is creating a shadow inventory of available rentals, according to the latest results of the National Association of Home Builders’ (NAHB) Multifamily Rental Market Index (MRMI).
“Occupancy rates are still reasonably good for rental apartments, but the significant correction we are currently experiencing in the for-sale segment is having some spillover effect,” said David Seiders, NAHB’s Chief Economist. “It is probably good for the long-term health of the market that rental apartment developers are easing up their plans for new supply.”
The component of the index that tracks rental demand slipped to 63.8 percent for Class A (luxury) apartments, off nearly 10 points from its all-time high of 73.2, recorded at the same time last year. The same index for both moderately priced (Class B) and lower-priced (Class C) apartments also dropped–although not as dramatically–to 67.7 and 66.0 from 71.4 and 68.0 respectively in the second quarter of 2006. The index is derived from a quarterly survey of multifamily builders and developers, in which their responses are rated on a scale of 1 to 100, with a rating of 50 generally indicating that the number of positive responses is about the same as the number of negative responses.
Despite the continuing strength in rental demand, builders appear cautious about increasing supply. The MRMI found that builder expectations for supply over the next six months are lower than at the same time last year, with the index for market rate rentals dropping from 61.2 in the second quarter of 2006 to 55.6 in the second quarter of 2007. The same supply index for lower rent apartments dipped to 45.7, down from 54.4 at the same time a year ago.
Source: The National Association of Home Builders www.nahb.org.
The Future of Cap Rates: Is a ‘Correction’ in Store?
The capitalization rate is measured by dividing a building’s net operating income by its current estimated worth or sale price. It is equivalent to the current yield on a bond. In order to decide whether cap rates are high or low, the rates are compared to yields on other investments, usually the 10-year Treasury note, a low-risk, income-guaranteed investment.
Over the past decade, cap rates have been declining steadily, primarily as a result of easy access to credit at low rates and to a deluge of capital into the real estate market from investors who reallocated their funds after the tech stock market collapsed in the year 2000.
The steady decline in cap rates has forced economists to question whether the trend is cyclical or secular and whether a “correction” is needed. As inflation rises, operating expenses and rents rise as well; as a result, cap rates are already “real” and do not need to be adjusted for inflation. The appropriate comparison for cap rates should be inflation-adjusted (as opposed to nominal) yields on Treasury securities. If compared to the latter, cap rates are close to historical norms and there is no need for a “correction” of cap rates, according to Mark Obrinsky, National Multi Housing Council’s Vice President of Research and Chief Economist.
Source: The National Multi Housing Council www.nmhc.org.
Chicago Downtown vs. Suburban Rental Growth
In looking for the highest rate of return, real estate investment funds often consider whether to narrow their search to downtown or suburban areas. Logic may dictate that because of higher occupancy rates and relatively higher rent levels, downtown areas would easily win out. According to Umair Shams, economist at TWR, these apparent advantages do not always translate into higher rent growth over a long time period of time. Moreover, downtown areas have a higher exposure to cyclical real estate patterns, so their rent growth tends to be more volatile.
Vacancy rates in the downtown areas tend to be lower due to supply constraints. Looking at national data going back to 1988, however, downtown rent growth has been no higher than suburban. Applying rent growth analysis to different metro regions will not always produce the same results; in some cities downtown rent growth has been higher on average and vice versa. In cases that mirror the national figures, however, rent growth can actually be very close between the Downtown and Suburban. When that happens, the next logical question for investors to ask is “where is the risk greater?”
Analyzing TWR historical data from 1988 to 2006, one finds that Chicago falls into the category where average annual rent inflation has been the same for both suburban and downtown office buildings; at 1.5%. Note that the period covered in this analysis includes two economic downturns, in the early 1990’s and early 2000’s. However, unlike the national data, which showed vacancy rates were mostly lower than suburban rates, vacancy rates in downtown Chicago were not always lower than suburban rates. Six out of the 19 years (1993 to 1998) suburban vacancy rates were in fact lower than downtown vacancy rates. Interestingly, average annual rent growth in the suburbs for the same time period was higher, at 7.4%–compared to a downtown average annual rent growth of 5%.
Source: TWR www.twr.com or contact Umair Shams at ushams@tortowheatonresearch.com
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| Flexible. Innovative. Creative. |
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Arbor is a national, full-service real estate investment firm focused on executing the highest level of expertise in order to provide clients with the most expansive, creative, and flexible range of lending products in the real estate finance industry. At Arbor, employees approach business in a results-oriented, decisive manner, striving to serve its customers quickly and efficiently while offering a boutique of unique product lines that distinguishes the company from traditional lending firms.
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Come see us at:
October 16-19, 2007
NAIOP Conference
October 28-30, 2007
NMHC Apartment Technology Conference
October 31, 2007
2007 Metropolitan Symposium on Real Estate Development & Finance
November 1, 2007
The NYC Real Estate Markets: The Year in Review and What’s Ahead
November 14-16, 2007
Multifamilypro’s Brainstorming Sessions
November 26-27, 2007
IMN Real Estate Mezzanine Loan Forum
November 29, 2007
40th Annual Conference on Capital Markets in Real Estate
November 29, 2007
MBA NY Holiday Party
 To meet with us at any of these events, give us a call!
1-800-ARBOR-10 and ask for Marketing Specialist, Ingrid Principe or email at iprincipe@arbor.com
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