Freddie Mac Catching Up in Apartment Boom: Mortgages
by Sarah Mulholland
2:00 AM CST February 12, 2015
(Bloomberg)
-- Operating in the shadow of Freddie Mac’s business as America’s
second-largest guarantor of home loans, the company’s unit serving
apartment landlords is booming as borrowers take advantage of looser
lending terms.
The mortgage company underwrote $21.2 billion of
debt on apartment buildings in the second half of 2014, triple the total
in the first six months. The surge meant the McLean, Virginia-based
lender almost surpassed the larger Fannie Mae last year to become the
biggest provider of U.S. apartment financing, following changes by the
agency that oversees both companies.
Melvin L. Watt, who took
over as director of the Federal Housing Finance Agency last year, is
rolling back policies aimed at shrinking the government-controlled
finance companies, letting Freddie Mac push into segments of multifamily
lending that had been off limits. That’s helping bolster demand for
apartment buildings, already the hottest part of the commercial real
estate market, as values rise to a point of possible overinflation.
“Rents
have been growing at a significantly faster clip than wages,” said Sam
Chandan, president of Chandan Economics. “The outlook for rental growth
is more measured than what we’ve seen over the last couple of years.”
Apartment
values have been rising steadily since 2010, according to the indexes
compiled by Moody’s Investors Service and Real Capital Analytics Inc.
Multifamily buildings in large cities such as New York and San Francisco
have had the biggest gains in the real estate recovery, with prices 40
percent higher than the record reached in November 2007, during the last
boom. Those higher values will be tested when the central bank raises
interest rates, a more likely prospect in 2015 after a strong jobs
report this month.
Growth Room
While prices for the best
apartment buildings in the highest-demand markets may be due for a
correction, there’s still room for growth among properties outside the
top tier, said David Brickman, head of multifamily operations at Freddie
Mac.
“Nobody is building Class B properties,” Brickman said in a phone interview. “Vacancies continue to be very low.”
Both
Freddie Mac and Fannie Mae boosted apartment lending during the latter
half of 2014 after Watt eased restrictions on that part of their
businesses, according to real estate research firm
Green Street
Advisors LLC. The FHFA capped their multifamily lending at $30 billion
each this year -- a $4 billion increase for Freddie Mac -- after telling
the companies to shrink the business in 2013.
U.S. Conservatorship
Watt
succeeded Edward DeMarco, who made cutting the size of the companies a
priority while he was director, a role he assumed when the FHFA was
created in July 2008. Freddie Mac and Fannie Mae were seized and taken
into U.S. conservatorship in September 2008 as the companies buckled
under the weight of souring home loans, requiring a $187.5 billion
taxpayer bailout.
The surge in volume at the end of last year
was due in large part to an unexpected drop in interest rates that
pulled some borrowers off the sidelines, according to Jeff Hayward, head
of multifamily operations at Fannie Mae.
The demand for loans
was sluggish at the start of the year, and Fannie Mae and Freddie Mac
didn’t have a clear mandate from their regulator until May, according to
Willy Walker, chief executive officer of Walker & Dunlop Inc. The
new FHFA road map allows the lenders to exceed volume caps to serve
affordable-housing needs, Walker said.
“That was really a great
shot in the arm,” said Walker, whose company is a lender in the
multifamily programs at Fannie Mae and Freddie Mac, which rely on
partnerships with banks and other financial institutions to acquire
loans.
Class B
The shift in tone at the FHFA has been
especially beneficial for Class B buildings, properties that are
typically at least 20 years old and may need upgrades, Green Street
analysts led by Dave Bragg wrote in a report last month. Ownership of
such buildings varies widely, ranging from individuals to large
institutions, according to Bragg.
Freddie Mac last year started a
program catering to borrowers renovating their properties, Brickman
said. The short-term loans are designed to facilitate improvements prior
to investors taking on longer-term debt.
New FHFA rules last
year also enabled Freddie Mac to finance manufactured-housing
communities and form a group dedicated to originating small apartment
loans, of $1 million to $5 million. The average size of a Freddie Mac
multifamily mortgage is $15 million, and loans can be as large as $450
million.
A $4 million loan to refinance debt on Nettleton
Commons, a complex in Syracuse, New York, completed last month, is
typical of the program.
Fannie Mae has been doing such lending, geared toward providing low-income housing, for several years.
Losing Ground
Fannie
Mae is losing ground as Freddie Mac expands its programs and offers
borrowers more generous terms, such as allowing landlords to defer
paying off principal. Freddie Mac’s multifamily-loan volume exceeded
Fannie Mae’s by more than $2 billion in the fourth quarter.
For
all of 2014, Fannie Mae retained a slim lead, completing $28.9 billion
in apartment financing, compared with Freddie Mac’s $28.3 billion.
Combined, the two hold about $334 billion of outstanding multifamily
debt, with Fannie Mae accounting for $198.4 billion as of Sept. 30.
By contrast, the companies hold more than $4 trillion of loans backed by homes occupied by their owners.
In
their multifamily units, the two use different models to distribute the
risk of borrowers defaulting. Fannie Mae shares in losses with the
lenders it partners with, while Freddie Mac offloads losses to private
investors. Fannie Mae’s model leads to a more conservative approach to
underwriting.
Fannie Mae
The larger lender isn’t
standing still. At the end of last year, Fannie Mae started funding
borrowers with newly constructed properties that are still in the
process of finding tenants for them. While buildings typically have to
be least 90 percent occupied to qualify for funding from Fannie Mae, the
new program allows for vacancy rates as high as 25 percent, said Hilary
Provinse, a senior vice president at the company.
More than six
years of near-zero interest rates engineered by the Federal Reserve
have pushed all types of investors to take on more risk to generate
higher returns. Fannie Mae and Freddie Mac have to get more aggressive
to compete, and Freddie has been faster than Fannie to adapt, said
Walker of Walker & Dunlop.
Still, the landscape remains
relatively tame compared with the excess of the years leading up to the
last property-market crash, Walker said.
“We’re not doing loans with either agency that say the silly underwriting of 2006 and 2007 is coming back,” he said.
The
multifamily units at Fannie Mae and Freddie Mac, which have been
growing steadily since 1994, emerged from the financial crisis
relatively unscathed, compared with the arms that deal with individual
homeowners. The companies’ track record in the industry supports their
continued growth, according to Bragg of Green Street.
“We don’t
necessarily think we’re taking on more risk,” said Brickman of Freddie
Mac. “We’re feeling more empowered to make good loans and not as
concerned about staying in a lane.”
