October Financing Market & Trading Desk Commentary
By Scott Taccati
The credit markets eased back on rates after the Fed announced the $85 billion per month in tapering would continue due to overall economic weakness. This was great news from the perspective of Treasury rates as the 10 Year Treasury has dropped approximately 35 basis points from the 3% range. The tapering program directly impacts Treasuries and single-family mortgage-backed securities, as these are the securities that are being acquired by the Fed, thus creating increased artificial demand. Unfortunately, GNMA multifamily securities (HUD deals) have not decreased any since the Treasuries have come down during the last half of September. With that said, we are seeing continued widening of spreads for GNMA multifamily securities, which are primarily comprised of 35-year fixed rate paper. The sole reason for the lack of buyers in the GNMA multifamily market is that the rapid rise in rates that occurred in the summer resulted in institutional investors getting stuck with lower coupons in their portfolios intended for REMIC resale. As Treasuries stabilize for a period of time, we expect demand to slowly turn around resulting in reduced spreads. As of this writing, HUD coupon rates are being priced in the mid 4% range prior to MIP. Spreads over the 10 Year Treasury are now approaching 2%, which is essentially 100% increase since May. Shorter term maturities ranging from 5 to 10 years (Freddie, FNMA, Life and Conduit) have enjoyed lower rates, however. The pricing advantage for HUD deals is simply not there as it used to be, particularly if 10-year deals or less are acceptable to borrowers. We expect this to change, hopefully by year end.
We have seen the conduit market offer interest only loan provisions for multifamily product, up to five years, strengthening interest from borrowers who were seeking possible agency paper. Also, please note that debt yield (net operating income/ loan amount) are very reasonable at 9% to 10% for most property types, and 11% for hospitality. Speaking of hospitality lending, this market segment has recovered nicely over the last few years, but again, a proven predictable income stream is necessary along with a reputable hotel flag and operator.
Residential construction A&D projects are still very difficult to fund from banks, however there is equity out there, particularly for deals above $15 million. We have seen equity proposals of 80/20 where the required internal rate of return for the 80% partner is in the upper 20% range, with a payback period of approximately 3 to 4 years. Bank financing, when available, will require equity of at least 35% when it initially returns. If the housing market continues to stabilize, this will be reduced in the future to 20% to 25% equity requirement. Private lenders today are requiring 30% equity and effective yields of 16% to 20% when considering points.
10 Year Treasury:
Low 2.60 High 3.00
30 Year Treasury:
Low 3.64 High 3.90
HUD Multifamily Est:
Low 4.375 High 4.65
HUD offices are essentially closed until the government reopens. In the interim, commitments are anticipated to be issued once appropriated and pending commitments already issued will be consummated to loan closing. Overall applications are on hold if not yet committed.