The Great Recession of 2009 wasn’t especially kind to the owners of commercial real estate assets. However, in hindsight, it was a breakthrough year for senior housing and healthcare properties, as the extent that senior housing demand is sustainable during different economic environments began to more fully sink in with lenders and investors. Last year, senior housing/healthcare properties were the strongest real estate asset class in most lender and investor portfolios.
The recession obviously negatively affected some aspects of the senior housing industry. Weakness in the residential housing market and the overall decline in consumer confidence forced many seniors to delay moves into independent living properties. The impact on occupancy in skilled nursing homes, where the majority of residents are funded by Medicaid, Medicare and private insurance, has been less apparent. The federal government’s stimulus program, coupled with the willingness and ability of states to meet their responsibilities to the Medicaid population, has enabled nursing home operators to perform at a high level. As a result, the industry has proven to be remarkably recession-proof in the current downturn.
The pace of the economic recovery, coupled with how well state governments are able to resolve budgetary woes, will dictate how smoothly and effectively this dynamic unfolds. Skilled nursing facilities still could face additional challenges as a result of decreasing state revenues and Medicaid cuts. But the industry’s greatest cyclical challenges would appear to be behind us at this time. The bottom line is that the business case for senior housing received exceptionally strong validation in 2009. Senior housing properties have generally performed well in the current crisis and could perform even better if economic growth proves to be sustainable in the second half of the year.
It’s true that the debt markets will continue to be challenged during the next year, with both lenders and investors continuing to fixate on how well transactions support underlying economics. Special emphasis will continue to be placed on cash flow, property history and performance. For senior housing borrowers, HUD Lean was the developing story in 2009, with the federal agency processing a record $2 billion in new loans, including MAP, TAP and loans underwritten using the new Lean rules that have standardized and streamlined the HUD application process. On the equity side, there was lots of talk but little action in 2009, but 2010 is shaping up as a more robust year for investments.
In the past, the fact that senior housing properties were not a pure commercial real estate play was a distraction for investors. However, in some quarters, this is beginning to be viewed more as a blessing than a curse.
2010 Predictions
HUD Lean. Underwriting for assisted living and skilled nursing home properties continues to move tighter, as loan to value has decreased over the last 12 months and cap rates have increased. HUD Lean remains a program in transition, with the agency scrambling to resolve issues related to the heavy demand for this product. From the borrower’s perspective, current low interest rates make these loans more attractive, but upside pressure on rates could be developing in the year ahead.
Fannie Mae and Freddie Mac. These capital providers are committed to supporting the senior housing industry. Both focus on assisted living and independent living properties, and both got off to a slow start in 2009, but gradually increased volume as the year went on. The expectation is that 2010 loan volume will continue to rise. During the past 14 months, both Fannie Mae and Freddie Mac have continued to tighten underwriting standards, and this trend is expected to remain in place.
Commercial Banks. Banks are not expected to be a major source of funding for senior housing in the year ahead. Like the large national banks, regional banks were not players on any level in senior housing last year and are still dealing with commercial real estate issues. These lenders do, however, appear to be warming to the task and could step up to fill some funding gaps in the months ahead. Community banks could also be joining the hunt as well, with the focus on local relationships and deposits.
Insurance Companies. This could very well be the year of the insurance company in senior housing. Last year, insurance companies were able to take advantage of commercial real estate lending opportunities without worrying about competition from commercial mortgage backed securities. The companies created extremely conservative underwriting guidelines and cherry-picked the most profitable low leverage, high interest and short amortization deals available. These companies will be acting on opportunities to increase senior housing market share in the months ahead.
For many of the same reasons, the two major credit companies that are active today in the senior housing/healthcare segment, General Electric and Capital Source, might reasonably be expected to increase senior housing lending activity in 2010.
Equity Investment. Senior housing/healthcare investors generally fall into three primary categories: private investors, institutional/private equity investors and REITs. As 2009 began, private investors were mostly looking for deeply discounted deals that failed to materialize. Private institutional investors were generally uncomfortable with the sector, and REITs were holding back for various reasons. However, for private investors and REITs, the New Year appears to have ushered in a remarkably different perspective. Private investors are becoming more impressed by the industry’s fundamentals and are particularly attracted to performing properties. Likewise, REIT managers have noticed the favorable performance data, have money to spend and could become a major force in transactions moving forward.
‘ Jeffrey A. Davis is chairman of Cambridge Realty Capital Companies.