If you’ve been at it a while you end up running through most scenarios in real estate investing.
And the alternative methods to acquire the asset
I am sure there are strong arguments for each camp as investors have been successful in each and many have done all three.
But which is the easiest, has the least risk, and still makes a strong return?
For someone starting out, a single-family seems easiest, its only one tenant. Right? That to me is a trap. Most people with a bad experience in real estate is due to only having one unit and a very bad tenant. Your occupancy is very digital either 0 or 100%.
So maybe its fix and flip because there are no tenants. Buy low, add value, sell for more and keep the profits. But the market needs to be right for that and unless you are Jim Dandy Handy you will be paying someone to handle it. You’ll need the down payment and the funds to improve the asset. And you will pay on the note while holding the asset.
Then there’s multifamily. All tenants at the same location. Mechanicals and repairs are generally cookie cutter as the units are very similar. One bad tenant has less overall impact as the number of units goes up. But as the number of units goes up so does the barrier to entry. Large multifamily buildings are not only expensive but may require a property management group to oversee the asset and the tenants.
Maybe its not a particular asset type. Perhaps its how you invest.
Hands-on investing requires you to learn the market, find the right asset, and build a business plan to manage the asset and have at least one exit strategy. And done right will provide an excellent return.
The easiest, least risk investing might include a REIT or now an ETF but they do not really offer any tax advantage. Passive investing through a syndication allows you to participate financially with no active involvement. Investors pool their funds to leverage into a large asset alongside the operator/ sponsor. As an owner, you will benefit from the returns and have tax advantages. You will want to review the due diligence, understand the scope of the project and vet the operator. But they handle all aspects of the project. Working with a group like ours, we will Vet the sponsor, provide a 3rd party independent analysis of the business plan and the financials. We will also do a physical site visit and share the details with our investors.
Check all three boxes- Easy, Low risk, strong returns.
To see investment opportunities that we are investing in and sharing with our investor community link here.
Recently I was asked, "What if I invested in real estate during the pandemic"? With rent moratoriums and the grim news cycle exposing the complications surrounding real estate, in reality, it is that it was just another season in real estate. It has affected everyone differently, from lenders to brokers and everyone in the middle, including the tenants and homeowners. And as we move towards a post-pandemic time the numbers will speak for themselves.
To better understand Multifamily Investing, let's consider the size of the market and who its major investors are.
Per the MBA- Mortgage Bankers Association MBA.ORG The total commercial multifamily lending is forecast to rise to $409 billion in 2021 - a new record and a 13 percent increase from last year's total of $360 billion. MBA anticipates additional increases in lending volumes in 2022, with activity rising to $421 billion in total multifamily lending.
Here are quarterly sales of Commercial Multifamily
Who Owns the most debt financing for Multifamily? Clearly, the banks are involved as they originate loans. But it is interesting to see who else participates in real estate.
Multifamily Mortgage Debt Outstanding
The four largest investor groups are: banks and thrifts; federal agency and government-sponsored enterprise (GSE) portfolios and mortgage-backed securities (MBS); life insurance companies; and commercial mortgage-backed securities (CMBS), collateralized debt obligation (CDO) and other asset-backed securities (ABS) issues.
Looking at multifamily mortgages in the first quarter of 2021, agency and GSE portfolios and MBS hold the largest share of total multifamily debt outstanding at $861 billion (50 percent), followed by banks and thrifts with $481 billion (28 percent), life insurance companies with $171 billion (10 percent), state and local government with $106 billion (6 percent), and CMBS, CDO and other ABS issues holding $53 billion (3 percent). Nonfarm non-corporate businesses hold $19 billion (1 percent).
Single-family vs Multifamily delinquencies from a historic perspective.
The pandemic certainly had an impact, but nothing like that of the 2009 downturn, however. Single-family housing saw much more pressure for delinquencies than Multifamily. A professionally managed Multifamily complex with hundreds of tenants has the size or scale that buffers the impact from rent issues. When you have 85% + occupancy, or rent stabilization, the rental income providing strong revenue. With a single-family tenant if there are challenges there is no other income. To further lower overall risk the Asset class can also be considered to determine what market to invest in. Low-income housing vs Class A or Class B will have different levels of risk.
To examine what happened with rents as well as vacancies the below graphs show that rents were up and vacancies were stable throughout the pandemic and certainly faired better than the office and retail space. Since January 2021, the national median rent has increased by a staggering 13.8 percent. The sunbelt and other desirable locations have seen even greater increases caused by strong demand.
So how does Multifamily remain stable during a downturn?
From personal experience, the pandemic and the rental moratorium did cause rent challenges, but we continued to receive 99.4% of my rents and still had a strong year. As we start to push out of the pandemic, we are seeing demand spike and rents increasing. We have had zero vacancies.
A recent Forbes article titled Multifamily Investments Weather Economic Winds
During times of crisis or economic downturn, Multifamily has consistently proven its resiliency, stability, and predictability. The Covid-19 strain, like other economic challenges, has shown that Multifamily remains consistent. The reason is simple: People always need a place to live. In downturns or crises, people are forced to focus on their most basic needs. When money gets tight, you cannot get much more essential than food and shelter. Although some renters will seek more affordable options, most will settle in for the storm. Every single time, rents in commercial apartment properties have remained stable, including our current crisis.
The success of other commercial real estate asset types is tied closely to the business environment and economy, not people and their lifestyles. The direct driver for office investment returns is job growth, a function of the economy's health, inflation, and interest rates. The health of the industrial segment is driven by overseas competition, tariffs, and GDP. Retail is subject to online shopping. For Multifamily, none of the above is a direct influence.
From 2003-2008, there was minimal rent growth in the apartment sector, and capital was so available that people were increasingly buying homes rather than renting. When the Great Recession occurred, and many homeowners became renters again. Even during the rent-stagnant years before this crash, apartment rents never went backward; they just grew at a slower rate leading up to the crash. Apartments as an investment type then led the way out of the crisis and entered 10 years of unprecedented rent growth.
"Multifamily… is more protected against downturns than any other asset class, making it a safe investment as the cycle matures." – GlobeSt. December 31, 2019
Economic hardship and recessionary times come and go, but they can inflict long-lasting damage to investment portfolios and cause overwhelming emotional stress to affected investors. However, for those armed with information, real long-term investment opportunities are there. For decades, people have invested in apartments for tax-advantaged passive income, equity growth, diversification, and stability.
The Answer Remains consistent
Although the pandemic did cause rent challenges, professionally managed businesses weathered through, and today the Rents are at all-time highs. Of course, no investment is entirely recession-proof, but multifamily apartments are recession-resistant. Historically, an investment in basic needs (like shelter) has weathered the economic storms better than other investment types.
Multifamily investing generates income through the use of leverage as well as from rents. With a relatively small amount of money, at a low interest rate, a large asset can be controlled. When you examine multifamily real estate's performance during previous recessions, the evidence is overwhelming. The inherent return components of current income growth, compelling risk-adjusted returns, and lower volatility can provide overall solid performance in good times and bad. For Investors, the pandemic did not slow the consistent returns and strong exits. If anything it has exposed the mismatch in supply and demand.
To illustrate the resilience of Multifamily investing. Here is a current headline that captures it well-
Renters face a 'landlord's market' by Gianna Prudente
As the housing affordability crisis pushes more first-time homebuyers into the rental market, rent prices are soaring month-over-month across all of the country's 100 largest metro areas.
The market has provided a fantastic YoY return for many investors. However, based on when you read this, the market is ripping in one direction or the other. And for some, they have started to put money on the sidelines to reduce downside risks.
If you take off risk, where do you put it?
With your investment money on the sidelines it feels like capital preservation, capital preservation gives up significant potential returns and focuses on security and stability. Capital preservation securities are associated with minimal risk. These investments include— savings accounts, CDs, federal bonds, and treasury bills as they are insured by the Federal Deposit Insurance Corporation (FDIC) up to $250,000. Other options include various types of annuities or insurance products. The biggest drawback of capital preservation is its ability to maintain or surpass inflation, and capital preservation assets usually rely on much-lower interest rates averaging less than 2 percent. If you're not close to retirement age, this may not provide the kind of return to keep your money working for you.
So then what?
What if you could invest in an asset-backed, risk-adjusted product that provided options for an 8-10% annual return, and target a 20% IRR at the asset's sale (more to follow).
During a recession, people will save cash and cut spending. Retail and Office sectors are often impacted as spending slows and contraction starts. People will travel less and unfortunately some companies shutter. But people will continue to need a place to live. When people feel the pressure to conserve cash, some will refrain from capital expenditures like cars or planning a new home purchase. This compounds as liquidy tighten so does lending from banks. Therefore, it's likely that the share of renters will increase during these uncertain times.
Due to its size, at 200-400 units, the individual vacancies have a little material impact on revenue. Although it is vital to manage vacancies, they are much more impactful to retail and office properties. Focusing on Rent stabilized assets ( greater than 85% occupancy) provides positive cash flow via rents allowing the operator to concentrate on the business plan.
Working in the Value-add space is a strong area for success. Taking a Class B Asset (more than 15 years old, in a good neighborhood) and improving the building through updates and renovation can bring it to B+ or A equivalent. This improvement will make the asset desirable to new tenants at higher rents and future buyers like major institutions for a healthy exit.
An alternative investing approach has become more available to investors. Large Value-Add, Multifamily Real Estate investments will fight a recession and provide robust investment returns.
Here is some common language for returns.
Class A units: 10% preferred return
Class B units: 7% preferred return + share of profits 70/30 LP/GP profit split to 2x multiple Greater than 2x multiple, then 50/50 split on every dollar over the 2x hurdle.
Class A will receive a 10% return annualized and distributed monthly until the asset's sale (preferred means subordinate only to creditors).
Class B will receive a 7% return annualized and distributed monthly until the sale of the asset (Subordinate to creditors and Class A). They will also participate in profits on the sale of the asset at 70%. Based on the hold period, this will generally create a 2X return on investment in 3-5 years.
At Anthem Investing, we are focused on Value-Add commercial real estate.
To learn more or preview upcoming opportunities contact me.
A Syndication is the pooling of money for many purposes. My friend gave me a good analogy of riding on a commercial plane. The pooling of funds allows a large group of people to get from one location to another without renting the entire plane individually. The formation of a real estate syndication is a pooling of funds from investors, also called Limited Partner. The group that actively acquires and manages the asset is the General Partner. And again, these funds will be used to buy an apartment building or similar asset and execute the project’s business plan.
Generally, the syndication is used to acquire large apartment buildings. A 300-400 plus unit complex would be difficult for the group to purchase and handle individually, allowing investors to pool their resources and share risks and returns. Through the use of leverage the syndication can acquire a $40 Million asset with approximately $10 Million.
The GP group forms a partnership and has unlimited liability. They are active in the day-to-day operations of the business. For apartment syndication, the GP is also referred to as the sponsor or syndicator.
The GP will determine a target market or markets to identify potential project opportunities. They work to secure an apartment complex in that market. In some instances, they are getting off-market assets without broker involvement. Through this process, they build out the necessary team members depending on the scope of work. They are also responsible for financing this project. There are several types of loans they may choose to acquire the asset depending on their strategy, but they will most likely still want LP funding to assist with the project. They either go directly to investors or work with the Broker-Dealer network, including us, to onboard investors. Once they have the asset negociated they need funding to physically take control of the asset.
The LP, also known as the silent partner, has liability only to the extent of their investment. Therefore, they are also known as the passive investor. The LP is not involved in any aspect of the project or the decision-making. Passive investing is the opportunity to leverage the expertise of the GP to handle all aspects of the project so the LP can invest without having any of their time or focus diverted.
An investor can research and find syndicators or operators within a syndication and join their project as an LP investor. The subscription will be at the same rate as if they worked through a broker-dealer. A broker-dealer is an investment organization that affects the transactions on behalf of its investors for a fee. Their fees are paid by the GP team not the LP investor. They operate in a highly regulated area by FINRA and the SIPC; both fall under the SEC. The broker-dealer can work with many syndicators, so they usually have more opportunities for investors to consider across many geographies. An extra set of eyes- Broker-dealers should also do 3rd party analysis of the project and do a physical site visit to understand better the opportunity they are promoting to their investor network. For more insight or to see upcoming projects click here.
Rents on the rise-
Since January 2021, the national median rent has increased by a staggering 13.8 percent. San Francisco was significantly affected during a pandemic. Rents are still 12 percent lower than they were in March 2020, but the city has seen prices increase by 20 percent since January of this year. And in mid-sized markets rents rose throughout the pandemic for example rents in Boise, ID is now up 39 percent since March 2020. Rent growth in 2021 so far is outpacing pre-pandemic averages in 98 of the nation’s 100 largest cities.
Vacancies hitting historic lows-
There had been increased vacancies due to uncertainty of the pandemic last summer as there was household consolidation. This summer saw a post-pandemic reaction of increased demand. The total number of households in the U.S. is now greater than ever before at over 131 million.1
This high demand has created a tight market, resulting in our vacancy index dropping sharply throughout 2021 as prices increase rapidly. Rents are now up more than 13 percent this year, more than doubling the overall rate of inflation.
Single family housing impact-
With a 48 percent drop from last year, the For-Sale market is seeing a historic contraction of available inventory. This caused a squeeze in the market and significant price increases. The potential home buyers that are priced out of the market or waiting for things to cool down will continue to rent. This put further strain on the rental market.
The rental market outlook will remain strong as there continues to be limited supply. And investors will continue to see strong returns.