The Federal Reserve raised the Federal Funds Rate by another 25bps this week, as expected,to 4.50%-4.75%, which is the highest level seen since October 2007. The markets broadly expect another 25bps hike in March, with the possibility of a final 25bps hike in May or June. That said, Federal Reserve Chairman Jerome Powell commented that we are now seeing the beginning of disinflation in the market with goods prices beginning to fall, partially aided by lower energy costs. As we noted about two months ago, we believe that inflation is largely beating and that more modest consecutive month-over-month inflation readings will confirm our view. The Labor market remains reasonably robust, though wage growth has trailed overall inflation (real wage declines) and with a number of sizable layoff announcements in the technology space (Amazon, Facebook, Google, Salesforce, and others). All of this data increasingly points to the likelihood of a ‘soft landing’ for the economy in the months and quarters ahead.

With the Federal Reserve starting to note disinflationary pricing in goods, and with the end of rate hikes in sight (and likely rate cuts in 2024), the treasury markets are seeing rallying prices and lower rates. Indeed, the 10-year Treasury has now fallen from a peak of 4.23% on October 20 to 3.40% today as the market looks past the Federal Reserve’s near-term hikes to more normalized rates in coming quarters. There are a cross current of impacts on the multifamily market, but here are a few:

• Borrowing rates for homeowners are still high compared to where they have been over the past 10 years, making homes less affordable and spurring demand for apartments. While 30-year fixed mortgage rates have fallen from a peak of 7.0% a couple of months ago to roughly 6.0% today, that is still much higher than the 4.0% rate that homeowners were borrowing during 2014-2019. This upward move in rates has
  delayed many first-time homebuyers and put ownership out of reach, extending these renters’ time in apartments;
• Fannie and Freddie fixed rate loans are now pricing around 5.35%, down roughly 100bps from the peak. This means that multifamily loans are sizing bigger than they were two or three months ago, and with more post-mortgage cash flow for equity investors. This may be lessening the price declines seen in the multifamily space, and encourage institutional investors to re-enter the market from an investment perspective. Exit cap rates are being modeled lower as well given the lower borrowing interest rates. All of this supports the soft-landing thesis that seems to be playing out in the broader economy.
• We still expect distressed apartment deals to hit the market, and are starting to see some of that flow now with over-levered syndicators that cannot refinance their large debt loads. Indeed, we are now starting to see some apartment deals that are ‘must-sell’ situations because banks are forcing owners to sell at market prices. Indeed, over-levered syndicators using bridge debt and having bought at any price for deals in late 2020 through early 2022 are experiencing pain. We expect to see more of these distressed deals in the coming months as deals financed in 2021 hit the market in late 2023 or early 2024.
• Merchant builders are also being forced to sell at market price. There is a tremendous amount of apartment supply hitting the market in 2023. At the same time, banks and financial institutions are experiencing contracting credit as the Federal Reserve decreases liquidity throughout the financial system via ‘Quantitative Tightening’ (QT). These merchant builders are being forced to sell at market price by their banking institutions who are calling their construction loans and not offering additional financing. We think buying at or near cost from these merchant builders in 2023 and 2024 is a winning strategy for core-plus products in attractive locations, and we are circling some of these opportunities now.

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