Managing Volatility, Disruption Is Crucial to Multifamily Debt Market, Says Freddie Mac’s Martinez
As markets, consumers and businesses react to the novel coronavirus, lenders and mortgage bankers across the country find themselves reflecting on the volatility that characterized the multifamily debt market in 2019 and wondering just how similar 2020 could be.
To be sure, market uncertainty is par for the course during presidential election years, and the market event related to coronavirus is creating additional anxiety. The multifamily debt markets are also working to move away from the LIBOR index as a benchmark for pricing loans to a new index, creating the need for adjustment within the industry when that move takes effect in 2021.
But beyond those factors, lenders and mortgage bankers anticipate continued strength in multifamily loan production fueled by strong fundamentals and low interest rates.
These topics formed the basis of discussion for much of the Mortgage Bankers Association and CREFC’s Multifamily Housing Convention & Expo, held February 9-12 in San Diego. The event afforded ample opportunities for publications that cover the industry to meet individually with multifamily finance professionals and gauge their outlooks on the health and prospective performance of the market in 2020.
Rebusinessonline.com took advantage of those opportunities to sit down and talk with Rich Martinez, senior vice president of production and sales for Freddie Mac. What follows are his edited responses to a series of forward-looking questions:
Rebusinessonline.com: For the government-sponsored enterprises, 2019 was a volatile year. How did the year end up for Freddie Mac in your view?
Rich Martinez: Last year, 2019 was another strong year for us. We increased our volume of loans funded by 1 percent to $78.4 billion. We increased our securitizations by 5 percent to roughly $75 billion, and we increased the amount of mission-driven business we did to about 39 percent of our total transaction volume. By all measures, it was a success in what was a very challenging year.
REBO: What in particular made it such a challenging year?
RM: There was tremendous market volatility in 2019. The stock market saw a lot of vacillation. We had a new regulator take charge at FHFA in the spring of 2019, and he is setting a course for ending conservatorship. And lastly, we had a 10-year Treasury yield that plummeted almost 100 basis points from November 2018 to November 2019. So uncertainty created by all of those factors made it a challenging year, but we successfully navigated it.
Late in the year, FHFA moved to implement a new cap structure, which gave us certainty about our volume in 2020, but it came at a time when the multifamily debt market was growing through a combination of increased values and lower Treasury yields. As a result, we had to make some adjustments that would ensure we could maintain our presence in the market throughout the year.
REBO: Regarding the stock market, in which equities are traded, how does that affect Freddie Mac’s business?
RM: It affects our business in two ways. It impacts Treasury yields — if the stock market is dropping, investors are fleeing equities and going into Treasuries, which causes yields to decrease. Secondly, some investors may move out of the stock market and into real estate. Stock market returns overall have been phenomenal for the last several years, but there’s been some talk of recession as well. We’ve seen the yield curve invert and manufacturing slow down, as well as some other indicators of recession that caused people to move out of equities into the safety of Treasuries.
REBO: The MBA’s panel of economists is still talking about volatility and uncertainty for this year via factors like the coronavirus. We’ve seen the 10-year Treasury yield drop, so what’s changed? Is the landscape changing more quickly than it has in the past?
RM: The market has undergone a transition. Prior to 2018, it was about doing a lot of business, some of which was capped and some of which was uncapped, and we could manage the two. The new volume structure eliminates the capped versus uncapped idea, and now we have a hard limit of $100 billion over five quarters.”
So that’s changed our mindset. Before, we were always managing by balancing capped business and uncapped business in the form of green, affordable, or mission-driven business. Today we’re operating under a “one team” mindset — one team working together to do two things: better manage the flow of business and offer a better and more consistent experience for lenders and borrowers.
Our goal this year is to eliminate any risk of market disruption. Last year, we started having the heads of credit, capital markets and business lines meet on a weekly basis and monitor our inflows and if necessary, make adjustments. If we’re winning a lot of business, we have to slow the flow. If we’re running cold, we turn it up a little bit. But no matter what the market conditions are — and you can never entirely eliminate market volatility — our mission is to provide liquidity. We want to avoid any wild swings in deal volume.
REBO: What are your thoughts on what we’ll see in the market this year? Will the growth continue?
RM: There’s a tremendous amount of capital, both debt and equity, that’s looking to get into the multifamily space. We see a continuation of strong fundamentals in the space.
So we expect the size of the market to grow from about $375 billion to $390 billion. There’s talk of investment sales activity being front-loaded through the first half of the year due to uncertainty related to the election. We’re also monitoring the transition from LIBOR to the Secured Overnight Financing Rate (SOFR) as a potential source of volatility this year. Overall, we just want to make sure that we have sufficient capital to be in the market from January 1 to December 31.
REBO: High-rise apartments seem to be growing heavily in major markets, such as Atlanta, where our company is based. Those properties command higher rents — are there enough renters to fill those spaces?
RM: In general, there’s more demand for housing than there is supply, for both single family and multifamily. Our view is that within any market that has experienced overbuilding, while there may be some short-term pain, in the long run the supply-demand fundamentals will balance out. But as an owner, you have to have staying power and be able to weather those times of being under occupied or achieving rents that are slightly below pro formas.
REBO: Between renters and homeowners, is there an optimal balance for the percent that should be renting versus those that should be owning?
RM: We haven’t heard much discussion on that, but it seems to be a function of generational preferences. Baby boomers wanted to be homeowners and many now want to be renters. Many millennials have delayed homeownership. We’ve done some studies that suggest that Gen Zers are more interested in homeownership than millennials, so we really can’t say for sure. There are other headwinds in homeownership — student loan debt, higher costs — so it’s hard to say if there’s an ideal percentage mix. Regardless, Freddie Mac provides liquidity to the housing market, and we’ll be there for both rentals and single-family homes alike.
REBO: Optigo® is a new banner for the Freddie Mac Multifamily network. What was the catalyst behind the name change, and what has the reception to the new name been like?
RM: It’s been a year since we rolled out the Optigo name. As leaders in the market, we felt a strong need to brand ourselves in a way that would allow us to stand out in the industry. Optigo covers our lender network and programs, and we’re thinking of expanding it to our borrowers and capital markets investor networks. Like anything else, it takes time for it to take hold, but we’re proud of the success we had in launching Optigo.
REBO: The new cap structure for volume for the GSEs was adopted in the fourth quarter of 2019. It seems that in some ways this has simplified things. How will the new cap structure affect the role you play in the market moving forward?
RM: It has simplified things in some ways, but it’s also put a hard limit on our deal volume. That will require us to carefully manage our inflows. Last year Treasuries plummeted, and we started signing up a lot of new deals. This year, when we start having those inflows, we’ll have to monitor them more closely
In the end, the new cap structure has forced us to become better managers of our business, and to work more collaboratively across business lines and more closely with capital markets and underwriting to make sure we have the optimal mix of business.
REBO: What is the future of the Green Advantage® program now that it’s no longer uncapped?
RM: We still think the program is very important. We do some workforce housing K-Deals®, and when you combine the green aspect with workforce housing, we’ve attracted additional investors and have been able to achieve better pricing than on workforce housing deals that didn’t have the green component. We’re making sure we maintain our green program, but volume may not be as high as in past years. Last year we did roughly $17 billion in green deals.
REBO: Is there a pure definition of workforce housing? And what do you consider to be the best solution to making renting more affordable for the masses?
RM: The short answer is “no”, there’s no hard definition of workforce housing. It’s fungible — workforce housing in New York City is different from that of Jonesboro, Arkansas, which is different from that of San Francisco. We look at it through the lens of a public service worker or teacher and what they could afford in a particular market. It varies tremendously from market to market.
I don’t think there’s a silver-bullet answer to the issue of affordable housing. It’s a very complex problem that needs to be approached from different angles. The presidential administration has launched a commission to look at local regulations, lending regulations, building codes — that’s one necessary approach. The building industry has come at it from the standpoint of manufactured housing or component housing being solutions. As lenders, we ask ourselves, what we can do in that role to help? So it’s a problem that has to be approached from different angles. Recently there’s been more focus on the issue through rent-control laws, which are a natural outcome of the industry’s inability to solve the problem.
REBO: The industry believes that rent controls will have the opposite effect of what they’re intended to achieve. Do you agree with that position?
RM: Rent-control laws are counterintuitive. In the past, they’ve resulted in disinvestment in multifamily. There’s a variety of different kinds of rent-control laws out there and some are more restrictive than others. We look at this from the position of a lender, not as policymakers, and we will continue to assess the effect of different regulations on the market.
REBO: Are there any specific parts of the market that Freddie Mac will focus extra attention in 2020?
RM: Again, there’s more demand for housing than there is supply in both the single family and multifamily spaces. Some markets have seen more supply additions that have caused rent growth to soften, but our default rate is down six basis points from the previous quarter, so overall the markets are very healthy.
One area of the market we are watching closely is student housing. I heard an executive once describe student housing as similar to the ocean: It’s big and vast; some areas have low tide and others have high; some areas are beautiful, and others are stormy. It’s market-specific — some are still burning through heavy volumes of new supply and others are doing well.
REBO: What do you think we’ll be talking about a year from now under these settings?
RM: The main topic will probably be the transition from LIBOR to SOFR. Generally, when you broach that subject, it doesn’t seem to be registering for people just yet.
Freddie Mac will not be taking loans under application for LIBOR-based deals after September 30 — for single family and multifamily — and we will no longer buy a LIBOR-based loan after December 31.
LIBOR-based loans are a big part of our business. When we look at the range of LIBOR-based products in multifamily we offer, it’s extensive. So, we have to come up with a viable product because there’s demand for floating-rate financing. And if there’s a need in the market, we want to be there to meet it.
Beyond that, we should see record levels of new supply in 2020. The supply will be top-of-the-market product, but that’s not always where the demand will be. So, the question will be, “what’s the impact of record supply in 2020 in the market overall?”
— Interview by Matt Valley. Compiled by Taylor Williams