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2022 was a tale of two halves for multifamily finance. “Debt funds, commercial banks, and life companies were being very aggressive in competing for transactions in the first half of the year. Fannie Mae and Freddie Mac were primarily focused on mission business and affordable housing. We also saw the investment sales market being extremely active in the first half of the year,” says Ted Patch, executive vice president and group head of the multifamily finance group at Walker & Dunlop. “As we evolved through the year, the second half started to see an increase in volatility with interest rates rising. That clearly had an impact on slowing, not stopping, the investment sales market.”

As the new year kicks off, those issues that took hold in the second half of 2022 remain for the sector.

“Looking ahead, there are still concerns about volatility, inflation, rising interest rates, whether we are or aren’t headed into a recession or are already in one, and the war in Ukraine,” Patch says, adding that he anticipates investment sales will not be as robust at the start of the year as they were at the beginning of 2022.

David Brickman, CEO of NewPoint Real Estate Capital, agrees that multifamily lending, like the rest of the financial services world, continues to grapple with higher interest rates and a heightened level of economic uncertainty and volatility related to the Federal Reserve’s tightening.

However, he’s cautiously optimistic. “Capital markets can adapt, and multifamily can adapt, but investors need to know where it’s going to settle out before they will come off of the sidelines,” he says. “As a natural optimist, I think we will get some settling of the market at the beginning of the year, and a new perspective on where we are in the cycle and the new market equilibrium. That will give people the confidence to execute again.”

Brickman says with values likely coming down further throughout the start of the year there will be some isolated pockets of distress that could create both challenges and opportunities. “There will be some degree of fear as to if we are truly settled in terms of values—this will be on folks’ minds and could make them more risk averse.”

With the volatility, Brickman and Patch agree that discipline has returned to the underwriting process.

“Underwriting has certainly tightened with concerns about what the future holds and where values will settle out,” Brickman says.

Patch adds that he is not seeing the aggressive three-year rent growth projections nearly as much, noting that’s likely good “for the stability of the market.”

The economic volatility is not the only concern for lenders.

“The bigger risk I see is the affordability issues and the challenges of continuing to raise rents, particularly if we see continued inflation that pressures household budgets,” Brickman says. “That also increases the possibility of regulatory actions, like rent control initiatives, that have shown up and may continue to show up. Rent control is a big challenge for owners, and there are major developers who have stated that they will not develop in a rent control market. So you can see how rent control can actually have an adverse effect on affordability in the long term due to its impact on supply.”

Even in the high-rate environment, opportunities are available to borrowers. “The opportunities are primarily in borrowers looking to try to position themselves to be able to react to market changes. They are looking to have some optionality and flexibility in their borrowing,” says Brickman.

Patch says floating-rate loans typically provide the most prepayment flexibility, which remains an attractive feature for many borrowers. He also notes that he is seeing a lot more debt assumptions in transactions. “In a lot of instances, people assume the debt associated with the acquisition so they can take advantage of previously lower interest rates.”

Fannie Mae and Freddie Mac will continue to play a key role in the new year, providing liquidity when other capital sources are on the sidelines or taking a more cautious approach. Their mission-driven work will continue to be a big focus.

“As rents continue to rise, affordability has become a very significant issue. There will be some real friction on an owner’s ability to raise rents depending on the property and market. If you’re at the top of the market and dealing with higher-income tenancy–or if you are in a truly Capital A affordable rent-restricted property–it’s not an issue,” says Brickman. “As you get into naturally occurring affordable or workforce housing, there is less room to raise rents. That may factor a bit in terms of how a lender approaches individual opportunities, but there are also several financing incentives available to lower borrowing costs on those types of assets if owners pledge to preserve that affordability.”

With the start of the new year, Brickman and Patch both offer some key tips.

Patch says his best advice for going into an unknown and possibly recessionary market is to focus on maintaining liquidity and having an overall eye on expense reductions.

Brickman adds that borrowers should explore all options. “It’s not as clear what the best sources are, where capital will be available, and what the terms will be,” he says. “Things are changing more quickly.”

He also notes that, for lenders, sponsorship, property operations, experience, and ability matter so much more in today’s environment. “It’s a flight to quality for lenders—not just in terms of asset choice, but in terms of sponsorship. We are focusing that much harder on sponsorship as well as property quality.”