THE IMPACTS OF HIGHER INTEREST RATES ON THE RENTAL HOUSING INDUSTRY

 

According to Freddie Mac, in April 2022, the 30-year fixed mortgage rate averaged 5.11%, reaching its highest level in a decade. The past two years of economic news show a domino effect of the pandemic, shutdown, stimulus, recovery, supply chain disruption, inflation, and now higher interest rates prescribed to cool the fever.

When interest rates are discussed in broad terms, mortgage rates are the main lens, but the hikes are also spilling onto all segments of the housing industry, including multifamily.

Having an Effect or Not?

For John Tomlinson, Chief Financial Officer, Bell Partners, based in Greensboro, N.C., it’s a good news/bad news situation. “On the positive side, rising mortgage rates increase the cost of financing a home purchase,” he says. “The result is increased demand for renter housing. With high occupancy rates, the increased demand results in higher effective rent growth. On the negative side, the higher cost of debt forces buyers to sharpen their pencils and be more selective. Given the significant impact of debt related to total capitalization, some deals previously viewed as attractive become marginal opportunities.”

Rent growth is cited as the strongest buffer to higher capital costs. “We’re seeing very high rent growth,” says Chris Bruen, Research Director for the National Multifamily Housing Council, based in Washington, D.C, “The rent growth has more than offset the increase in the cost of capital. As of the fourth quarter of last year, cap rates are decreasing despite rising interest rates. Going forward, if rent growth continues to compensate for those higher interest rates, it’s somewhat of a wash for builders.”

Not all loans are created equal. Long-term, fixed rates remain mostly stable. “Adjustable-rate loans is where we’ve really seen a run-up over the last month in anticipation of the Federal Reserve’s news,” says Jamie Woodwell, VP of Commercial Real Estate Research at the Mortgage Bankers Association, based in Washington, D.C. “Those increased rates transfer directly to a builder’s bottom line.”

Shawn Townsend, Managing Partner of Chicago-based Blue Vista Capital Management, doesn’t believe anything is going to stop the multifamily development juggernaut. “From a development perspective, the pace of new development is continuing in spite of interest rate movement,” he says. “There’s an incredible capital momentum behind housing products. Not just multifamily, but the build-to-rent space, townhome, and the single-family hybrid. There’s still a supply-demand imbalance due to housing inventory in general, and the migratory patterns domestically have shifted demand in specific markets.”

The Yield Curve Inversion (Again)

In 2019, before anybody ever heard of COVID, the yield on the two-year and 10-year Treasury bonds inverted, meaning the rates on a two-year note was higher than a 10-year note. Economists point to inversions as a harbinger of a coming recession. The news typically generates a lot of headlines. It happened again on March 31 of this year, and the warning bells were rung. Are we headed to a triple whammy of higher rates, inflation, and a recession at the same time?

“Near-term inflation and recession go hand-in-hand,” says Townsend. “There are more distractions in the current cycle taking the investment momentum out of the equation, especially in the real estate space, which has been built up over the years. A lot of the narrative has been around the evolution of the post- pandemic fundamentals.”

Tomlinson notes the surprise of the 2019 inversion, but he’s not shocked about the current one. “I think the inversion in 2019 was more unusual because there were no other signals at that time suggesting an increased risk of recession. Unemployment was low, incomes were rising and inflation was muted. Today, expectations of higher interest rates to fight inflation as well as increased geopolitical risk have led many to conclude that the risk of recession has increased. Hence, last month’s yield curve inversion was not surprising.”

The other issue that may be sliding under the radar is what happens when the kinks in the supply chain finally get ironed out. “It is difficult to separate out organic inflation from supply chain issues, which initially sparked inflation, the Fed reaction, and pressure on the yield curve,” says Tomlinson. “The Fed’s actions and messaging have moved the market on the short end meaningfully. Absent this action, the yield curve would probably be a more indicative leading indicator.”

Inversion is an indicator of what is expected to happen, but it’s not always right. Larry Jacobson, President, and CEO of Los Angeles-based The Jacobson Company says, “While an inverted yield curve has often preceded a recession, this is not a given. In fact, a recession did not occur when the yield curve was inverted in 2019. Investors have seen that it can often take some time for the effects of yield curve inversion to reach equities; therefore, it’s wise not to act impulsively. We may or may not be headed towards a recession, but criteria such as how the Federal Reserve manages its interest rate increases will really be the determinative factor in my view. We just don’t have enough information at this point to know whether they will get it right or not.”

The Affordability Question

Pre-COVID, housing affordability was a hot-button issue that is now making a return to the spotlight. Greg Curci, EVP at Morgan Properties based in King of Prussia, Pa., doesn’t see higher rates alone pushing more people into rentals. “Down payments are as much a factor as borrowing costs, particularly with regards to first-time homebuyers,” he says. “The rapid rise in home price values over the past year put homeownership temporarily out of reach for many and has helped fuel the unprecedented demand for apartments. It remains to be seen if the recent rise in mortgage rates will trigger a meaningful enough decline in home prices such that renters are able to convert to homeowners.”

Woodwell thinks there are bigger forces at work regarding homeownership and affordability besides interest rates. “There’s a lot of focus and discussion on rent vs. buy,” he says. “Both markets are driven by the supply of housing and the overall number of households out there. Interest rates flow through to the rental market. I look more to the demographics and supply and demand shortage as the key drivers for what’s pushing people into different types of housing right now.”

The Housing Shortage

Check out the price of lumber and the lead time for appliances. Assess the threats of inflation and recession. Add in the rate hikes and yet, the building goes on. “While the cost of construction has certainly increased over the past couple of years, there is simply not enough apartment supply to meet the demand,” says Curci. “As a result, multifamily development projects in under-supplied markets still pencil out quite well as developers and their capital partners are willing to inject considerable optimism in their future rent growth projections.”

Tomlinson is looking at new projects coming out of the ground which is always a safe place to start an analysis. “Multifamily construction starts will remain attractive until the spread between development and acquisition yields no longer justifies the added risk,” he says. “We’re seeing delays in development, but construction starts nationwide remaining at elevated levels. With higher financing costs, some developers may choose to adjust their projects with fewer amenities and other cost-saving measures.”

Biggest Concerns

With all that’s going on, are interest rates the biggest headache affecting developing or operating multifamily buildings? It depends on who you ask. Townsend says, “As we assess lending opportunities in the asset class, we’re increasingly concerned about aggressive operating assumptions. We’re seeing a very aggressive year-over-year rent growth opportunity in the first 12 to 24 months before they settle into a benchmark that they grow with CPI. Obviously, if you don’t reach those aggressive rents, it becomes a problem.”

Woodwell points to what’s happening in key markets and the basic rules of supply and demand. “For the construction of multifamily, it’s often not easy. It can be affected by local laws that affect the ease of building, local market conditions – just a host of things can affect it,” he says. “The builder and the lender are always looking at the market in which the property is being built and the market to which it will be delivered.”

Bruen sees the supply chain issues as the main cause and probably the most solvable solution. “It was the pandemic that originally caused the supply chain issues which caused inflation and higher rates so I think if new strains prolong supply chain issues, that could have an indirect effect on rates,” he says. “They’re not totally unrelated but we keep coming back to the supply chain being a catalyst for a lot of it. Right now, the increased cost of capital is being offset by high rent growth. So, I think there are still profits there to make construction worthwhile. The question is, will this rent growth continue to compensate for the higher costs of capital?”

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Source: THE IMPACTS OF HIGHER INTEREST RATES ON THE RENTAL HOUSING INDUSTRY

https://www.creconsult.net/market-trends/the-impacts-of-higher-interest-rates-on-the-rental-housing-industry/

Long-Term Demand Drivers Will Keep CRE Correction At Bay

 

With demographics driving property demand, the bigger picture points to generally strong drivers across the real estate spectrum.

The US economy is “still strong” and will support commercial real estate space demand, though inflation will remain a multi-year headwind, forcing the Fed to tighten monetary policy. And though rising interest rates may restrain CRE transaction activity, it won’t be on a broad basis, with effects most visible in the property types and markets with the most aggressive pricing run-up over the last few years.

That’s according to Marcus & Millichap’s John Chang, who says CRE will continue to see strong investor demand in the near term. He also says investors shouldn’t expect a real estate bubble, not in housing or in commercial real estate more generally.

“There are too many long-term demand drivers at play for any of the sectors to face a significant correction,” Chang says.

He notes that the self-storage sector will get a boost as millennials age: the demographic “over-indexes” as users of storage with just 28% of the population renting 9% of the storage units. That bodes well for storage demand but there are some development risks for the property type on the horizon, he says.

“As we exit lockdowns, and as demographics drive property demand, the bigger picture points to generally strong drivers across the real estate spectrum,” Chang says. “Some segments like urban office and seniors housing still face some challenges but it looks like most other segments are in a growth stage of the cycle.”

Housing demand set an all-time high in 2022 with total unit absorption hitting 660,000 units, nearly doubling the prior high set in 2000. Demand also carried into 2022 to deliver the strongest first quarter on record.

“The record demand reflects an unbundling of households as vaccines became readily available and states ended lockdowns,” Chang says. “A lot of marriages and other household formation events have been delayed by the pandemic and we saw the release of that pent-up demand over the last year.”

The result was a record-low vacancy rate at the end of the first quarter at 2.4% and a dramatic surge in rents. Average rents in the first quarter were up by 17.3% year-over-year, another record. And while those numbers may seem eye-popping, Chang says they should be contextualized against the backdrop of eviction moratoria and other rental relief programs ending, and notes that rents actually went down by 0.8% between the first quarter of 2020 and the first quarter of 2021.  Between Q1 2020 and Q1 2022, rents went up by a little more than 16%, an average of 8% per year.

“That’s still high, but not shockingly so,” Chang says, adding that single-family home prices increased twice as fast during the same period. “At the heart of the problem is a housing shortage. Even though a record 400,000 apartment units are scheduled for completion this year we will still fall short of demand.”

Marcus & Millichap is forecasting vacancy to remain at 2.4% through the end of the year and says rent growth will subside to 9.4% in 2022.

“We have a demographic wave right on the cusp of moving out on their own,” Chang says. “That’s why I don’t think the housing market is due for a correction. There is a housing supply shortage and it won’t go away for several years.”

Self-storage is another market strongly impacted by demographics, much like multifamily. Chang says that at the onset of the pandemic self-storage properties pulled back on rents, but demand surged as households doubled up and college students moved home.

Although there was a self-storage supply overhang going into the pandemic, Chang says, most of the vacant space was rapidly absorbed, with vacancy declining from 9.5% at the onset of COVID to 6.6% by year-end 2021, a record low.  That translated into 7.6% rent growth last year.

“We’re seeing demand ease back a bit and construction is starting to ramp up so vacancy rates may begin to push up again,” Chang predicts, noting that Marcus & Millichap forecasts vacancy to rise to 6.9% by year-end with rent growth in the 4% range for 2022.

As for industrial, demand surged to record levels in 2021, pushing vacancy to a record low as well. Construction will likely set a record in 2022 as well, with the addition of 420 million square feet, but M&M expects vacancy to continue to decline.

“The most significant force driving industrial demand is a snarled supply chain,” Chang says. “Companies are facing big challenges in sourcing internationally made products, particularly those made in China.” And for that reason, Chang says reshoring and near-shoring of manufacturing will be something to watch over the next few years, as many companies consider moving manufacturing operations to Mexico from China.

Industrial demand has been driven primarily by retail sales, which have been “off the charts,” up 27% since the onset of COVID. But while e-commerce sales, which pushed core retail sales early on in the health crisis, are moving back into their pre-pandemic growth trajectory, in-store retail sales have surged more than 19% over that time.

Necessity retail, like grocery-anchored centers, performed best, but restaurants and other service-based retail have already bounced back in states that ended lockdowns the earliest.  Outsized may still exist for those subsectors in states that ended lockdowns later, Chang says. Nationally, the multi-tenant retail vacancy rate is expected to push below 6% this year.

And as for office, significant variations exist depending on location, type of building, and type of tenant.  Vacancy hit a peak of 16.1% in Q2 2021 and has eased to 16% since then. However, suburban office vacancy rates peaked at just 15.8%.

“Perceptions of office space demand tend to be worse than the reality,” Chang says. Although many think that working from home will be the death of the office space, we have actually seen four continuous quarters of positive space demand. Based on the corporate messaging I’m hearing, there will be some flexibility on where staff members work but major companies are slowly pushing toward a substantial return to the office. It will likely take a few years for the office sector to fully recover, especially in markets that opened later…but the momentum is beginning to build.”

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Source: Long-Term Demand Drivers Will Keep CRE Correction At Bay

https://www.creconsult.net/market-trends/long-term-demand-drivers-will-keep-cre-correction-at-bay/

Cost Segregation: Ideal for Multifamily Properties

 

In a cost segregation analysis, your client’s property elements are divided into two categories: real property, which includes permanent and immobile objects, like their building’s foundation, and personal property, which includes objects like a kitchen ...

If you’re a Broker with clients who own or manage multifamily properties, cost segregation might be the biggest source of tax savings that they’ve overlooked.

Like any building, multi-family properties depreciate, or lose value, over time, due to everyday wear and tear that accumulates. But rather than calculating an apartment building’s depreciation via the traditional method of dividing the improved value by 27.5 years, a cost segregation study analyzes a property’s distinct components, so owners can depreciate their property over a shorter time period. A study sorts these components into different categories, which are depreciated at various rates. The accelerated depreciation schedule can reduce taxable income and increase after-tax cash flow substantially.

In Multi-Housing News, Mark Ventre, a senior vice president at Stepp Commercial, made this observation in his article “Why Cost Segregation Is So Important”: “Cost segregation studies [for multifamily properties] range from around $5 to $15,000.  If a study costs $10,000 and yields a net present value benefit of $250,000, that’s a 25x return on investment. Sounds worth it to me.” Who would disagree?

What Can You Depreciate?

In a cost segregation analysis, your client’s property elements are divided into two categories: real property, which includes permanent and immobile objects, like their building’s foundation, and personal property, which includes objects like kitchen cabinets and flooring. While the real property components depreciate over a period of 27.5 years, the personal property components depreciate over shorter periods — five, seven, or 15 years, depending on the specific element. By taking stock of your client’s property’s individual assets, cost segregation speeds up depreciation so they can deduct more from your taxes

In a Forbes article entitled “What Multifamily Investors Should Understand About Cost Segregation,” real estate investor Rod Khleif broke down how a cost segregation study categorizes a property’s components into four classes; each is depreciated over a different time period that reflects the asset’s useful life: 1.    Personal property: includes items such as furniture, carpeting, fixtures, and window treatments. If you depreciate these over five or seven years using the double-declining method, you can significantly increase the depreciation expense for these items. 2.     Land improvements: includes items such as sidewalks, fences, and docks. Using the double-declining balance method, you can depreciate them over a 15-year period. It’s advisable to maximize the values attributed to this category.

3.     The building: includes the building’s components, such as the roof and plumbing systems. You should seek to allocate the maximum value you can to this category because any residual value is attributed to land.

4.     Land: You allocate any amounts not allocated to the previous three categories to land and depreciate them accordingly. Provide a Value-Added Service to Your Clients

In another Forbes article, “What Property Managers Should Know About Cost Segregation,” David Crown, CEO, and Founder of the L.A. Property Management Group and Crown Commercial Property Management, described how cost segregation saved him from a hefty tax bill when he was about to send an $80,000 tax payment check to the IRS: “I had already stamped the envelope and everything when I received a last-minute phone call from a colleague advising me to look into cost segregation. With one call to my accountant, I saved all that money.”

He saved a significant amount on taxes, he added, “simply because somebody in my circle had the know-how and the wherewithal to recommend looking into cost segregation. The money I kept because of that changed the trajectory of my whole year. [Emphasis added.] If you're a property manager, gaining a basic knowledge of these principles can immediately make you more valuable to the owners you serve. You can be the person in their circle who changes the trajectory of their whole year.” He stressed that property managers have a responsibility to do more than address everyday issues like maintenance, rent collection, and tenant placement. To improve their clients' returns, they’d be wise to learn more about tools like cost segregation to provide value-added service. A cost segregation study could save them a great deal of money and improve their cash flow. And your clients will be grateful to you for clearly demonstrating that you’re looking after their best interests, thanks to your superior financial expertise.

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Source: Cost Segregation: Ideal for Multifamily Properties

https://www.creconsult.net/market-trends/cost-segregation-ideal-for-multifamily-properties/

eXp Commercial National Meeting

 

Join us in our virtual eXp Commercial Campus on the third Tuesday of every month for the eXp Commercial National Meeting, where we'll share exciting announcements about what's coming up and how you can get involved at eXp Commercial!

If you're not an eXp agent yet, you can register here!

Interested in becoming an eXp Commercial Agent, you can contact us here.

Download the virtual eXp Commercial Campus here. 

All times are shown in PT. 

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https://www.creconsult.net/market-trends/exp-commercial-national-meeting/

15 Reasons To Join eXp Commercial

 

Real estate agents looking to get a foothold into the commercial real estate space could face challenges due to the industry’s entrenchment in tradition and old-school attitudes. That’s why the commercial real estate brokerage space is ripe for change and eXp Commercial has emerged as the CRE brokerage to watch. Here are 15 reasons why eXp Commercial is turning heads in the commercial real estate brokerage space.

1. One, Big Brokerage – eXp Commercial is not a franchise. It is one big international brokerage. There is no costly overhead, no desk fees, and no regions.
2. Generous Commission & Cap – eXp Commercial agents enjoy an 80/20 commission split with a $20K cap. Once capped, agents can earn 100% commission for the remainder of the anniversary year.
3. Revenue Share Program – eXp Commercial agents can receive revenue share income from the sales activity of the productive agents they sponsor into the company. Revenue share is much more lucrative than profit-sharing.
4. Equity Plan – eXp agents are awarded or can earn shares of eXp World Holdings stock (EXPI: Nasdaq) after certain milestones such as closing your first transaction, when you fully cap, and when an agent you sponsor closes their first transaction.
5. Low Fees and Costs – U.S. agents pay a $250/month tech/cloud fee, a $250 broker review, and $100 risk management fee (capped at $1,000/year) per transaction.
6. CRE Software and Tech Tools – Included in the $250 tech fee are world-class CRM, lead share/lead generation, collaboration, co-working, and software tools including Buildout, Reonomy, AgentHub, eXp Enriched Data, Skyslope, AirCRE, and TenantBase.
7. Access to Data – eXp Commercial agents have access to 278 million property records for data on valuation, market research, capital markets, sales comps, loan information, owner information, building permits, and Environmental, Social, and Governance (ESG).
8. Cloud Campus – eXp does not have brick-and-mortar offices. eXp runs on a virtual metaverse that allows agents and staff to connect 24/7 and work from anywhere they want.
9. No Territories – Many CREs are limited to a region or territory, but eXp Commercial agents can take advantage of an instant referral network of over 80,000 eXp agents across the globe and collaborate. (Read why collaboration is a core value at eXp.)
10. Online Support – eXp Commercial has an entire support staff such as accounting, human resources, brokerage operations, legal, tech support, brokerage operations, and more. It has everything an agent would need to conduct business – all online.
11. Marketing Center – No need to wait to create. Create your own customizable marketing material such as flyers, event kits, business cards, and templates, and find brand items such as logos and helpful documents in the eXp Commercial Marketing Center.
12. Weekly Training – eXp University offers about 50 live classes a week covering lead generation, social media, sales training, and technology. All classes are free and in case you miss one, it’s recorded and can be found in eXp University’s ever-growing on-demand library.
13. Specialized Training – eXp Commercial offers a four-week program called “eXcelerate” that helps new agents learn the basic fundamentals of starting and building a successful commercial real estate career. An “Advisor” program offers junior agents mentoring.
14. Healthcare Program – eXp Agent Healthcare provides U.S. eXp Commercial agents with innovative and low-cost healthcare choices. (Read about four eXp agents who are saving thousands each year with eXp Agent Healthcare.)
15. Events and Networking – eXp Commercial has a robust calendar of events and symposiums to help connect agents and share industry information.

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Source: 15 Reasons Why eXp Commercial Is Turning Heads

https://www.creconsult.net/market-trends/15-reasons-why-exp-commercial-is-turning-heads/

CRE activity is growing, as is demand for commercial financing

 

As activity in the commercial real estate industry continues to rise, commercial lenders are seeing more requests for construction loans, acquisition loans, and refinances. But what kind of properties are developers and investors most interested in? Why are investors so interested in commercial real estate? And what do commercial lenders consider when deciding whether to approve a financing request?

Illinois Real Estate Journal turned to Dan Charleston, Vice President at Colliers Mortgage, and Patrick Tuohy, Senior Vice President at Marquette Bank, to find out.

Illinois Real Estate Journal: Are you still seeing a steady stream of financing requests for commercial financing? If so, are you seeing mostly acquisition or development requests? 

Charleston: Colliers Mortgage is primarily active in the multifamily business, including Agency lending and community bank lending platforms. Quoting activity is still robust despite higher interest rates, but deals are getting harder to underwrite. We have been seeing both acquisition and development requests, as well as refinancing requests. On the acquisition business, loans are more commonly constrained these days by DSCR (Debt Service Coverage Ration) metrics rather than LTV/LTC forcing borrowers to bring more equity to a transaction. With interest rates having moved from the mid to high 3% range to the high 4% and low 5% range on stabilized apartment assets, the math just gets harder on acquisitions. And on development loans, there is a fair amount of uncertainty about construction costs. On refinancing activity, owners who are interested in keeping their assets longer-term are finding attractive loan proceeds based on values today.

Tuohy: We are still seeing a steady stream of acquisition transactions in multifamily as well as the other asset classes. New development in multifamily has slowed down due to construction costs but there are still a number of new multifamily properties under construction and just breaking ground. Current inflation cost to replace and add new apartment stock has made “quality affordable housing” in the class “B” and “C” very attractive for owners/operators and investors both local and out-of-state operators and investors. Chicago has been on the radar screen for some time for out-of-state investors and continues to be a value play compared to the East and West Coast including Florida and Texas.

Illinois Real Estate Journal: For which commercial sectors are you seeing the most financing requests? Why are those sectors so hot right now?   

Charleston: We are particularly active in the Affordable Housing, Market Rate Housing, Seniors Housing, and Manufactured Housing spaces right now. All of the most active multifamily spaces are seeing especially strong rental growth and investor demand due to their ongoing strength and performance both pre and post-pandemic. Agency lenders such as ourselves are also seeing a lot of activity around Affordable housing efforts in all markets nationwide.  Our clients are actively seeking acquisition and development activities given the strength of housing markets and the demand for both affordable and market-rate housing.

Tuohy: Over the past year a significant increase in the number of owner/operators and investors have opted to retire/sell and trade into class “A” and class “B” single tenant triple net 1031 exchange investments. Depending on the submarket and tenant mix, e-commerce and changing work/life demands continue to put pressure on retail strip centers and office properties resulting in accelerated vacancy making underwriting these properties a challenge. For exchange buyers, triple net class “A” and “B” retail single tenant is very strong with available product limited. This has compressed CAP rates in the low to 5% range.

Illinois Real Estate Journal: What are investors so interested in investing in commercial real estate? What makes it such a safe investment type?   

Charleston: Investments in the multifamily space create both current cash flow and value-added growth opportunities for investors as owners/sponsors, and for investors in mortgages, overall returns have been outstanding with significantly less volatility and risk than other asset classes in the current market environment. In light of what’s happening in the stock and bond markets today, the more predictable nature of real estate returns, especially in multifamily assets, is becoming even more attractive.  Much of that has to do with the reality that the US needs millions of additional housing units to meet both current and future demand.  Well-managed assets can create excellent returns in those types of conditions.

Tuohy: Over the past year the number of multifamily buyers far exceeds the available product in both Chicago and suburban submarkets. This has resulted in multiple offers on any single opportunity pushing values to a record high. I continue to see a decline in the number of listings over the past year which has made this market highly competitive and difficult for the smaller operators to compete and purchase. We continue to see an increase in the amount of out of state buyers who have moved from larger properties and are now competing for smaller properties using local management firms such as Peak Properties and Cagan Management to operate.

Depending on the submarket, astute owner/operators and investors are looking at rental rates running from 5% to 20% above current market rates giving the proforma opportunity justification to pay the current asking prices. There is an increased demand in the multifamily market for rental units that have been upgraded with new finishes and amenities in the class “B” and “C” submarkets. Higher rental rates justify improvements to existing rental stock. Single-tenant credit-based investments in the industrial submarkets have been red hot for the past two years and continue to be so.

Illinois Real Estate Journal: What factors do you look at when considering financing requests?  Charleston: We are very focused on the strength of our sponsorship/borrowers, their experience in the market and asset class they’re looking to finance, and the quality of the project they’re proposing, both in terms of location and overall management strategy.  The saying in real estate is often “location, location, location”, and that much is true. But in larger-scale commercial real estate investment, that should always be paired with “sponsorship, experience, and strategy”.

Tuohy: Factors we look at include location and submarket strength, income and expense operating history, upside potential, exterior and interior asset condition, and operator experience and history.

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Source: CRE activity is growing, as is demand for commercial financing

https://www.creconsult.net/market-trends/cre-activity-is-growing-as-is-demand-for-commercial-financing/

What Is Holding Opportunity Zones Back? Industry Experts Weigh In

 

Investors aren’t always making the connection that Opportunity Zone investments are impact investments – so what can the industry do about it? In March 2022, JTC Americas and OpportunityDb released the results of an in-depth survey on Opportunity Zones. Titled, “Opportunity Zones in 2022: Perception vs. Reality,” the report provided insight into who is investing in OZ and why they do it.

In order to help relevant stakeholders get the most out of the report, JTC Americas hosted a March webinar, “Getting Impact Right: A New Strategy For Opportunity Zones,” where a panel of industry experts discussed what the survey results tell us about investor motivations, how fund managers can raise more capital, and where the industry can take action to improve the perception of Opportunity Zones.

Connecting OZ and Impact

Environmental, Social, and Corporate Governance (ESG) criteria are becoming increasingly important to investors, and Impact Investing is a hot topic among institutional investors as well as individuals. Opportunity Zones are impact investments and should be attractive to investors interested in social impact. But do investors see it that way?

Only 27% of survey respondents, a group that includes both those who have invested in OZ and those who have not, said they were “Very familiar” with the relationship between impact investing and Opportunity Zones. While Opportunity Fund managers may think it’s obvious that OZ investments are impact investments, it seems it isn’t obvious to everyone.

Even among current investors, not everyone seems to realize that OZ and impact go hand in hand. At the webinar, Beth Mullen, CPA, and Partner at CohnReznick, LLP, expressed her belief that OZ and impact should “fit right in the same sentence,” and if that isn’t happening for investors, “maybe we have a little bit more explaining to do.”

So why aren’t investors making the connection? The panelists, analyzing the survey results, had a few suggestions about how the industry can do better.

Proactive Outreach from Fund Managers

One of the best aspects of the survey is how in-depth it is regarding respondents’ sources of information. Beyond just asking how they feel about impact and OZ, participants were asked how they learned about the fact that OZ investments are impact investments.

As you can see, the dominant answer was “Conducted my own research.” The survey report singles this out as a major factor as to why investors don’t understand how OZ relates to impact: fund managers aren’t talking about it enough.

“One reason why this might be the case is that many do not hear about impact proactively from OZ fund managers,” the report reads. “Only 4% cited proactive outreach by fund managers.” If an investor is strongly impact-oriented, and the fund manager doesn’t explain that Opportunity Zones are impact investments, they may miss out simply for lack of communication.

Jimmy Atkinson, the founder of OppportunityDb, agreed that this number is far too low. “I think we have a little bit of work to do as an industry to promote Opportunity Zones not just as a great tax benefit, but also as a really valid place for impact investing as well.”

For the types of investors who really care about impact, perhaps managers are waiting too long to discuss it with them:

Only 15% of respondents said the social impact was discussed in the first conversation. According to Louis Dubin of Redbrick LMD, that’s not fast enough for young investors who have high expectations for impact.

“Almost to a fault, the under-30, it’s their first question,” he said. Atkinson agreed: “During their conversation with investors, they should make some mention of impact – how is this impacting the local community? How is this driving jobs? How is this driving increased economic activity in a census tract that has been typically underserved?”

By proactively talking about impact, fund managers can make it clear that social impact is not just a byproduct of Opportunity Zones, but a central component, and a reason to invest in and of itself. However, direct conversations are not the only way people hear about OZ – they may learn negative things about the initiative before they ever talk about a specific fund.

Reporting in the Media About Opportunity Zones

When survey respondents were asked about what most influenced their perception of OZs, 70% said “Research reports or news articles,” putting it overwhelmingly in the top spot. If potential investors are reading news stories about OZ as a tax scheme for the rich, they may never listen to a fund manager explaining how Opportunity Zones really work.

“My guess is that this is an issue of branding,” said Richard L. Shamos, Counsel, Nixon Peabody LLP. The panelists largely agreed that there was a legislative intent to help communities, and the initiative was meant to do good, but unfortunately, the tax benefits have gotten more attention. So how can the industry combat this misconception?

One way to do so is to highlight success stories. As the survey report explains, “A 2020 report by the White House Council of Economic Advisors showed that OZ investments nationwide are on track to decrease the poverty rate by 11 percent and have created at least 500,000 new jobs. And though investments so far have occurred in only about 1,300 of over 8,700 OZ census tracts, this is much greater than some long-established incentives, like the New Markets Tax Credit program, which supported investment in only 400 during the same period.

“In other words, while the OZ program may not be perfect, it’s doing a lot of good in some of our hardest-hit communities. Fund managers and industry groups should continue to highlight these success stories.” What the survey has taught us is that many people don’t realize OZ investments are impact investments and have only been told about the tax benefits. That means there’s an opportunity if the full benefits of OZ are communicated to them, to attract impact-minded investors and grow the industry.

Making OZ More Attractive to Impact Investors Through Impact Reporting

When the survey was conducted, respondents were given the chance to write answers to the question of how to make OZ more valuable to impact investors. See if you notice a pattern here:

• “Awareness that there is such a program.”
• “Better reporting”
• “Better understanding of the purpose”
• “Clarity”
• “Better measurement and metrics across the whole program, not all OZ developers are reporting on impact”
• “Clear and improved guidelines on job creation, social impact measure required under OZ program”
• “Clearer metrics on the actual impact that is occurring”
• “Impact reporting”
• “Metrics based on a standardized reporting scheme”
• “More data”
• “More positive stories about the impact of OZ on operating businesses”
• “More transparency on individual projects and better visibility”
• “Press coverage in national media”
• “Required impact reporting”

It seems pretty clear that OZ stakeholders want an accurate measurement of impact. As the report states, “This is aligned with the findings that investors – especially aspirational ones – are compelled to invest in OZs in large part due to their impact on communities.”

There have been efforts to pass legislation that would require reporting on impact. This could help change the conversation around Opportunity Zones by drawing attention to proven success stories and demonstrating the impact OZ investments are having.

At the webinar, John Sciarretti of Novogradac & Company, LLP, stated his belief that by implementing impact reporting at the Congressional level, investors will be more likely to want to participate.

“I think that transparency will double interest in the program,” he said, adding that this will be especially true for institutional investors who have high standards for data and reports.

Shay Hawkins, Chairman and CEO, Opportunity Funds Association, agreed: “Until we can get clear transparency and reporting and impact requirements in place legislatively, we in the industry have to help folks make that connection.”

JTC Americas has been a leader in Opportunity Zones fund administration since the program’s inception. Our award-winning eSTAC technology platform provides real-time impact reporting along with 24/7 access to key documents, and we’ve pioneered methods for measuring and reporting on social impact. While we wait to see how successful legislative efforts will be, JTC is helping our clients stand out from the pack when it comes to impact reporting.

Other topics were covered at the webinar, including missed opportunities for private equity firms to invest in operating businesses in OZs and why impact reporting requirements were missing from the original bill. Watch the full webinar to hear from industry experts about the current state of OZ and read the full survey report online.

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Source: What Is Holding Opportunity Zones Back? Industry Experts Weigh In

https://www.creconsult.net/market-trends/what-is-holding-opportunity-zones-back-industry-experts-weigh-in/