Is Now the Right Time to Invest in Multifamily Real Estate?
This is the number one question I get from both seasoned and new investors.
Before I answer that question, let me ask you a couple of questions…
- Would you rather invest in the stock market right before a correction (at the top) or right after it has gone through a correction (at the bottom)?
- Would you rather buy a dress shirt and pay full price, or would you rather wait until it goes on sale?
The decision to invest in multifamily real estate right now is really no different than the two questions I posed above. So why are so many investors unsure? It’s because they don’t really understand what’s going on in the multifamily real estate space right now. Let me lay it out for you.
To do that, I need to roll the clock back 3 or 4 years.
- Interest rates were super low and had been for a long time. When interest rates are low, people can afford to pay more for a multifamily property because it is cheaper to borrow the money needed to buy the property. In our world, we refer to this as low cap rates.
- Everyone was making money in multifamily real estate. In fact, it was really hard to not make money on a deal.
- Because everyone was making money, and money was easy to borrow, everyone piled into the multifamily real estate space, even though many had no idea what they were doing. Basically, everyone (well, almost everyone) got FOMO (a.k.a. Fear of Missing Out).
- Everyone (again, almost everyone) used this special form of financing called a bridge loan. A bridge loan gives you money to buy the property and funds most of the cost of improvements, and then in about three years, you were supposed to be able to refinance your property with fixed rate debt at the new higher value and pay off the bridge loan. Sounded like a good plan, as long as everything went according to plan.
- Oh, and one more thing…lots of people thought interest rates would never go up – even some very smart people.
OK, that’s what the landscape looked like a few years ago.
Now, let’s look at what’s happening now.
- Those newbies to the business (sorry newbies), many didn’t execute on their business plans, and they were not able to increase rents as much as they thought they could. In fact, some did worse than that – they really did not know what they were doing, and the operations of the property actually deteriorated.
- Because they were new, they also didn’t understand how to manage debt. Those bridge loans I mentioned above – they were all variable rate loans. Some were protected against higher interest rates with something we call “rate caps”, but many didn’t even have those in place. The result, if interest rates were to go up, their interest payments would go up.
- Then, Mr. Powell and The Federal Reserve did the unthinkable – they raised interest rates faster than at any time in U.S. history. Now, in their defense, they maybe had to because inflation had risen to 9%+. They increased short-term interest rates from almost zero (0.05%) to 5.3%+ in about 12 months.
- This was horrible news for a lot of people, including any multifamily real estate owner who had a variable rate loan or a rate cap in place that was expiring. The result, the interest expense on many mortgages on properties doubled in a very short period of time. Some even tripled.
- Unfortunately, rents couldn’t go up fast enough to cover the new higher interest payments.
- Now that interest rates are much higher, sellers can’t refinance their loans without paying them down to the point where the interest payments are affordable for the property. The problem is, they don’t have the cash to pay down their loan and their equity partners won’t give them any more money.
- So, sellers are forced to sell their properties to solve their debt problem. The problem is, interest rates (and cap rates) are much higher right now than they were 3-4 years ago. As a result, absent significant new cash flow, the property is worth much less today than when they bought it.
- The result, huge losses for multifamily real estate property owners who are forced to sell their property right now.
- If they had just managed their debt a little more carefully, most would have been able to hold their properties until rates normalized. Most of these properties are well occupied and would be just fine except for the debt problem. You see, debt is the problem. Multifamily fundamentals are holding up just fine (like they usually do).
The story I just told you above is not only true, but is playing out every day right now. It is creating incredible buying opportunities for those of us who are well capitalized and have 27+ years experience (like we do).
The Opportunity
Those people who bought multifamily properties coming out of the last debt crisis (2011), made insane amounts of money. We see a very similar situation playing out right now. Think about it:
- Debt is hard to get (similar to 2011).
- Lenders won’t lend to newbies right now (similar to 2011).
- Sellers are forced to sell their properties to solve their debt problem (similar to 2011).
- The number of qualified buyers in the market right now is only a fraction of what there were just 3-4 years ago (similar to 2011).
All this adds up to what I believe is a tremendous buying opportunity.
Here’s how we are approaching the market right now. We will maintain our discipline, like we always do. We will invest only in multifamily deals with some clear rent upside. We will keep our leverage low. In 3-4 years, when interest rates settle down, we will likely have a much more valuable property to either sell or refinance and return our investors’ capital. If interest rates don’t go down as expected, that’s still OK, because we will own a cash flowing asset and can wait until we are able to refinance or sell.
Basically, we will protect the downside risks and let the upside take care of itself.
Now I believe that’s responsible investing.
I encourage you to look seriously at this opportunity. We can help you determine if adding multifamily real estate to your portfolio is a good fit for you. To learn more please call or text (216) 290-1710 or email us at realestate@kripartners.com. You can also visit us on the web at https://www.kripartners.com/invest.
Important Disclosure:
All investments involve risk and may result in partial or total loss. Past performance is not indicative of future results. Any historical returns, expected returns, or probability projections may not reflect actual future performance. Prospective investors should carefully consider their investment objectives, risks, charges and expenses, and should consult with a tax, legal and/or financial adviser before making any investment decision.