\n
Dave:
Hey, everyone. Welcome to the BiggerPockets Podcast Network. I\u2019m your host today, Dave Meyer, and we are going to be digging into the state of multifamily in 2024. And to talk about this really important topic, we\u2019re bringing on two of the best in the business. Honestly, these two investors are guys I\u2019ve been following for most of my career. They\u2019re people I look up to. And I promise, you are going to learn a lot from each of them. The first is Matt Faircloth. You\u2019ve probably heard him on this podcast before, you\u2019ve been listening for a while. He\u2019s the owner of the DeRosa Group. He\u2019s a BiggerPockets Bootcamp instructor. He wrote a book called Raising Private Capital, and knows a ton about real estate investing. The other is Brian Burke, who is the president and CEO of Praxis Capital. He has been investing for a long time, over 30 years, and he has bought and sold over 4,000 multifamily units.
So if you guys want to learn about what\u2019s going on in the multifamily market, these two are the people you want to be listening to. And the reason we want to talk about multifamily right now is because it\u2019s facing market conditions that are very different than the residential market. If you paid attention in 2023, the residential market was flat. There wasn\u2019t a lot going on in terms of sales volumes, but things chugged along, and honestly outperformed a lot of expectations.
But when you look at the multifamily market, things are very different. Prices have dropped anywhere from 10 to 20%, depending on where you are in the country. And this obviously creates risk for multifamily investors. But the question is, does it also create opportunity in 2024 to buy at a discount and get some great value? So that\u2019s what we\u2019re going to jump into with Brian and Matt today. So with no further ado, let\u2019s bring them on.
We are, of course, here today to talk about the multifamily market. And so Brian, I\u2019d love just to have your summary first of all about what was going on in the multifamily market in 2023.<\/p>\n
Brian:
Well, nothing good was going on in the multifamily market in 2023. I always say that there\u2019s a good time to buy, there\u2019s a good time to sell, and there\u2019s a good time to sit on the beach. And so this beach here in the background is just really a demonstration that I live by what I say, and I actually put my money where my mouth is. There\u2019s really no reason to invest in real estate in 2023. It\u2019s just better to be on the beach or play golf, which is what I think I\u2019m going to do after I get done recording this podcast. Because I\u2019m not really paying that close of attention to making acquisitions right now, because there\u2019s just no reason to. 2023, I think, was a year of challenge when you had a bid-ask spread between buyers and sellers, where nobody could get on the same page. Buyers wanted to pay less than sellers are willing to take, and sellers wanted more than buyers were willing to pay. And there was no bridging that impasse, and I don\u2019t think that 2024 is going to look much different, frankly.<\/p>\n
Dave:
Matt, what do you think? Would you concur?<\/p>\n
Matt:
Well, it\u2019s easy when you\u2019re Brian Burke to say, \u201cI\u2019m going to just chill out and not do anything.\u201d But it\u2019s through no harm in trying that we didn\u2019t do anything, either. We worked really hard to try and do deals last year. But Brian\u2019s correct, the bid-ask spread was too far apart for most deals to get done. And those that I saw do mid-size multifamily deals, which is just what we are targeting and what Brian\u2019s targeting as well, those that were targeting those kinds of deals and that got them likely overpaid. If you look at where the market is now, and you look at where things are starting to settle down, I think that we hit the peak in 2023 of the market. I\u2019m not sure if Brian disagrees with me on that one or not, but I think that the market hit its apex. And it\u2019s tough to do deals when that\u2019s happening.
And so now on our way back down, we really spent 2023 tightening up our company. We made a lot of hires, changed a lot of things around, and tried really hard to get deals done. Didn\u2019t. Just through no harm in trying, but just the numbers weren\u2019t there. What sellers were asking and what properties were trading for. Other people were buying these properties, just not us. It just didn\u2019t make sense. Didn\u2019t pencil out. Would not have achieved anywhere near the investor returns that we wanted to see. So we tried, but we didn\u2019t. We struck out last year. And I don\u2019t think that\u2019s going to happen this year, though.<\/p>\n
Brian:
Matt and I did a podcast in August together on On the Market, and if you remember, we had a pact to disagree with one another. So I\u2019ll start it off this time. I\u2019m going to disagree with Matt\u2019s 2023 calling the top. I think the top was actually in 2022. And so we started selling in 2021, and continued selling into the early part of 2022, and then I think the market started to fall. So while Matt was out digging for needles in haystacks, he could have been out here on the beach with me the whole time. Come on, man.<\/p>\n
Matt:
I could have been joining Brian on the beach, but I\u2019m stubborn. I kept trying to get deals done. And Brian ended up, I\u2019m not going to say this very often on the show, but Brian was right, that there was not deals to be had. And maybe the market did peak in 2022, but I still think that there were a lot of stragglers, a lot of lasts of the Mohicans, so to speak, for folks trying to get deals done, Brian, in 2023. And I mean, we got bid out on a lot of deals, so there are still people that are literally trying to force a square peg into a round hole with a very big hammer, trying to hammer that square peg into that round hole to make deals work. And a lot of deals fell out, but they still went under contract, and we got beat at the bidding table. So I, again, don\u2019t think that\u2019s going to happen moving forward, though.<\/p>\n
Dave:
So let\u2019s dig into that a little bit, Matt. You said that things were not penciling. You were trying to bid.<\/p>\n
Matt:
Yep.<\/p>\n
Dave:
Prices are starting to come down in multifamily from 2022 until now. What about the dynamics of the market makes you want to bid less than you would have in 2022 or 2023, and what is preventing deals from penciling?<\/p>\n
Matt:
Well, it\u2019s very simple, in that unless you\u2019re going to go and do a deal and just buy it straight cash, you\u2019re going to have to borrow money. And the cost of money. The cost of money has gotten much more expensive. In some cases, it\u2019s doubled if not more, meaning a 3.5, 4% interest rate is now getting bid at 8% on a bridge loan, if not more. And so that same deal that would\u2019ve maybe made fiscal sense to a degree, maybe even would\u2019ve been pushing the envelope at debt quotes of 2020, 2021 is now subject to debt numbers in the 6, 7, 8, 9% range today. So that\u2019s the main thing that makes the numbers not pencil.
In addition to that, I think that we were getting beat by folks that were underwriting to 2021 and 2022\u2019s rent increased numbers, saying, \u201cWell,\u201d let\u2019s say Phoenix, Arizona or a market that\u2019s seen a lot of rent growth, and I\u2019m not throwing shade at Phoenix, I\u2019m just saying that market has seen a lot of rent growth. And so if I underwrite a deal, assuming\u2026 and you know what happens when you assume, right\u2026 That rent growth in Phoenix is going to continue, it may be that deal pencils out, but we weren\u2019t willing to do that. And we felt like rent had capped, and the data now shows that it has, but we were assuming that it had six months ago.
And so you go in with new numbers for debt, and not numbers for rent expansion, it\u2019s not going to pencil. Now again, other folks are making other assumptions. And when you underwrite a deal, you have to make certain assumptions. We were making more conservative ones, and that added up to the numbers coming in at best case, 10% below what the seller was asking. But the deals were still trading at or around asking up until recently.<\/p>\n
Dave:
All right, Matt, so as you\u2019ve said, the price of debt and borrowing money has made deals really difficult to pencil in 2023. Now we got to take a quick break, but when we come back, Brian, I want to hear if you agree with Matt\u2019s analysis.
Brian, what about you? You said that you basically sat out 2023. If you weren\u2019t looking at deals, were there any macro indicators or anything that you periodically peeked in on to know it\u2019s not even worth looking at individual deals at this time?<\/p>\n
Brian:
Yeah. We\u2019ve been following it pretty closely to see when the right time is to get back in. And Matt\u2019s right. I mean, God, I hate to say that. Matt\u2019s right, but the cost of debt has definitely been a factor in why deals haven\u2019t been trading. There\u2019s no doubt about that, but it goes beyond just the cost of debt. It\u2019s the cost of the entire capital stack. Even equity, when you think about it, three years ago, investors were trying to find places to put their money. And they were getting a quarter of a percent in a savings account. So these alternative real estate investments looked pretty darn good. Well, now they can get 5.5 in a money market. And so taking on a bunch of additional risk to maybe start out at 3% cash-on-cash return, if you can even find a deal that throws that off in year one, followed by maybe getting up to 6, 7, or 8% cash-on-cash return in a few years, the risk premium just isn\u2019t there.
So it\u2019s more difficult for investors to fund these kinds of deals. So I think availability of capital and the cost of the whole capital stack is part of it. The other part of it is expenses are growing. Insurance is getting much more expensive in some markets, utilities are going up, payroll is going up. All of those things are getting more expensive. And then layering on top of that, the income stream isn\u2019t growing. And really, the reason that people were paying so much money for income streams, which is really what we\u2019re buying. Yes, we\u2019re buying real estate, but the reason we\u2019re buying the real estate is because it throws off an income stream. Income streams were growing and growing rapidly a few years ago, but now they\u2019re not doing that. Income streams are shrinking, rents are declining, vacancies are increasing. As we see some trouble in the job market, we\u2019ll probably see increases in delinquency.
At the same time expenses are going up, interest rates are going up, the whole cost of capital is going up, so you just can\u2019t pay as much for a shrinking income stream as you could pay for a growing one. So really, what this whole thing comes down to is price. You can make any deal out there work at the right price. And the problem that we\u2019re seeing is that sellers want to price the assets they want to sell based upon the things they were seeing in the market two or three years ago, and that just isn\u2019t reality.
So what am I looking at, Dave, in terms of indicators? I\u2019m looking at more of the psychology than I am specific numerical indicators that are very easy to quantify. I want to see when people start hating on real estate. Then that\u2019s going to be when it starts to get interesting. When you start to see more foreclosures, that\u2019s going to be when it\u2019s going to be interesting, especially if no one\u2019s bidding on them. When you see pessimism about the economy, it\u2019s going to get more interesting. That\u2019s what I\u2019m looking for. I\u2019m not looking for, \u201cOh, rates have to hit X, and rent growth has to hit Y.\u201d And while certainly, those factors will make it easier to quantify future income streams, that isn\u2019t telling me exactly when I think we\u2019ve hit bottom.<\/p>\n
Matt:
Well said. I still have perhaps just more optimism. I\u2019m not sure Brian\u2019s familiar with the term, but I have optimism for 2024, with regards to where things are going to go. Did we hit the bottom? No, but I think that we\u2019re going to see more things. And we even were starting to see more opportunities open towards the end of Q4 of last year. There was one deal that we looked at that was being sold for lower than what the seller paid for it. The seller paid 90,000 a door for it. Two years ago, it was on sale for 75,000 a door, pretty much what they owed on it. And this is a seller that bit off way more than they could chew, bought way more than what they could handle, and just needed to unload. And they were end up cutting a lot of their equity.
That was the beginning of what I think we\u2019re going to see more of that. But you\u2019ve got to have a really small haystack if you want to find a needle. And so our company\u2019s only hunting in a few markets. And we were starting to see a few distressed deals show up in those markets, and I think it\u2019s an indicator of what we\u2019re going to see more of this year.<\/p>\n
Dave:
One of the things I keep wondering about is when this distress is going to come, because it seems like people have been talking about it for a long time.<\/p>\n
Matt:
Yeah.<\/p>\n
Dave:
You barely go a day without a top media outlet talking about the impending commercial real estate collapse, and how much commercial real estate mortgages are coming due. But it hasn\u2019t really happened. Matt, it sounds like you\u2019re starting to see a little bit.<\/p>\n
Matt:
Yeah.<\/p>\n
Dave:
But let me just ask you this. Are you surprised that there hasn\u2019t been more distress to this point?<\/p>\n
Matt:
Well, let\u2019s comment on that. Because they\u2019re our lovely friends in the media. And Dave, I just commend you, because you\u2019ve done a great job on this show, and on your outlets and on your Instagram channel as well, in breaking down a lot of the reports that we see on the real estate market in the media. So there\u2019s a lot of media about \u201cThis pending tidal wave of less commercial real estate that\u2019s going to be with all this debt that\u2019s coming due.\u201d Okay, that\u2019s true, that there is a lot of debt that\u2019s coming due. That properties are performing at lower interest rates, 3, 4, or 5% interest rates. And those properties are cash flowing or just getting by now, and then those rates are going to reset, right? That\u2019s what they\u2019re saying is those rates are not going to go from 3, 4, 5% up to 6, 7, 8%. True.
The thing that they leave out there in a lot of those articles or in folks that are screaming that from the mountaintop is that most of that debt is retail and office. And that\u2019s not a space that Brian and I are in, and I don\u2019t want to be in retail and office. There\u2019s enough to do in the multifamily space, and in a new space that we\u2019re trying on. That\u2019s not like retail shopping centers and office space. So we do believe there\u2019s benefit in other asset classes, but not there. Multifamily is starting to see some shifts, but I don\u2019t think it\u2019s going to be a \u201cblood in the street\u201d kind of thing like a lot of folks are predicting, like a lot of media is predicting it\u2019s going to be. There\u2019s not enough debt that\u2019s in distress that\u2019s going to come due. The number that I saw was something like Bloomberg issued an article, 67 billion in debt that\u2019s marked as distressed.
The thing is, that sounds like a lot of money, but it\u2019s not. Compared to the amount of debt that\u2019s in all multifamily. So 67 billion in multifamily debt is marked as distressed. But in the trillions in multifamily debt that\u2019s out there, that is a smidge. And so what I think that we\u2019re going to see is the strategic outlets of bad debt and deals that are going to get released to the market. But is it going to create a crazy market correction? No, I don\u2019t think so. I think over time, cap rates are going to go up and sellers are going to have to get real. But I disagree with Brian that there\u2019s going to be this panic in the multifamily market, and that it\u2019s going to become a space of bad emotion of \u201cYou know what? Multifamily, forget that. I don\u2019t want to be in that market.\u201d And that\u2019s when you really want to buy anything you can get your hands on.
But I think that the opportunity is going to be in niches of markets. Meaning if I choose Phoenix as a market, I want to target, me just really drilling in on that market and then finding the opportunities, maybe the broker\u2019s pocket listings or the off-the-market stuff that is going to be passed around to a small circle. I think that\u2019s where good deals are going to be had, is inside of market niches.<\/p>\n
Dave:
And Brian, it sounds like you think there might be more of an inflection point where distress hits a certain level and things start to accelerate downwards, I would say?<\/p>\n
Brian:
Well, I think I would say not quite those extreme set of terms, but I saw an article recently, it was talking about Atlanta, Georgia, right? Atlanta, Georgia is a big multifamily market. There\u2019s lots of multifamily units in Atlanta, Georgia. And it was somewhere in the neighborhood of 30 or 40% of the properties in Atlanta had loans maturing in the next two years. And a large percentage of those that have loans maturing in the next two years were loans that were originated in this height of the market period of 2020 through 2022. And so those were bought at very high valuations.
Valuations now are lower. And when those loans come due, there\u2019s going to be some kind of a reckoning. Something has to happen. Either capital has to be injected into those deals, or the deals will end up selling or getting foreclosed. And 30% is a big number. And certainly, not all of those are going to wind up in some kind of a distress, but that would be a major market mover, if 30% of the properties started going into foreclosure. And that would cause a cascade of negative effects in properties that weren\u2019t experiencing loan maturities.
Do I think that\u2019s going to happen and play out that way? Not really. What I think is more likely is that there\u2019s going to be a lot of these loans that are going to end up trading behind the scenes, where large private equity is going to come in, absorb the loans, buy them at a discount, and then ultimately, either they\u2019ll foreclose and take the properties and they\u2019ll get them at really good basis. Or they\u2019ll sell them at current market value, and probably make a profit based on the spread between the price they purchased the loan for and the price they sold the asset for, which will, by the way, be a lot less than what that asset sold for when it was bought by the current owner. We had a deal that we sold a couple of years ago, and the current owner is trying to sell. And I calculated based upon their asking price, it\u2019s a $17 million loss in two years.
So the distress has already begun to happen. Prices have already fallen. Whether or not people realize it or can quantify it yet, I don\u2019t know, because there just hasn\u2019t been a lot of transaction volume. So maybe it\u2019s being swept under the rug, where people are like, \u201cOh, the market\u2019s not going to crash.\u201d No, I\u2019m sorry to tell you, it\u2019s already crashed. Prices coming down, 20 to 30% has already happened. The question is going to be, do they come down another 10 or 20%? And that\u2019s what I\u2019m waiting to see play out, whether or not that happens. Because one could easily argue, \u201cOh, prices are down 23%. It\u2019s a great time to buy.\u201d It is, unless there\u2019s still more downward movement. So what I want to see is I want to see that those prices have troughed, and that they\u2019re not going to continue to slide downwards before I\u2019m ready to get in. I\u2019d rather get in once they\u2019ve started to climb and maybe miss the bottom, than to get in while they\u2019re still falling and then have to ride the bottom.<\/p>\n
Matt:
Rather not catch a falling knife. Right?<\/p>\n
Brian:
Exactly.<\/p>\n
Matt:
Yeah. The data that I\u2019m reading, I mean, man, that sounds crazy for Atlanta. That means, first of all, I\u2019m just going to throw it back at you, what you just said, what I heard, 30% of Atlanta traded in the last three years, right? That\u2019s a lot of real estate. And that means that 30% of Atlanta is in a distressed position.<\/p>\n
Brian:
Yeah, 30% of the outstanding multifamily debt is maturing in the next two years. That doesn\u2019t necessarily mean that they traded. They might\u2019ve refinanced, but 30% of the debt is maturing in the next two years.<\/p>\n
Matt:
Yeah. Here\u2019s what I\u2019ve read, right? Not everybody is scrappy syndicators like you and me, right? There\u2019s way larger corporations than mine and yours that own thousands and thousands of doors, and these guys are putting in loans backed by insurance companies going in at 50, 55% loan-to-value on their properties, because they\u2019ve owned them. These are legacy assets they\u2019ve owned for way more than 5, 10. They\u2019re buy and hold forever kind of companies. And the data that I\u2019ve seen are that those companies are going to be just fine. That if they end up having to take a little bit of a haircut on valuation, their LTV is so low that, \u201cOh, I can\u2019t refi out at 55. I\u2019ll have to refi up to 60 or 75.\u201d<\/p>\n
Dave:
So I just want to say something about the 30% number, because that number is actually not that high to me. Because if you think about the average length of a commercial loan, I don\u2019t know if you guys know, what\u2019s the average length of your term on commercial debt?<\/p>\n
Matt:
Five to seven years.<\/p>\n
Brian:
Or 7 to 10.<\/p>\n
Matt:
Wait, wait, wait, hang on. You got bridge debt in there, Brian, and stuff like that. So I think that the bridge two-to-three-year product may pull down the 5-to-10-<\/p>\n
Brian:
Fair enough.<\/p>\n
Matt:
\u2026 agency. So meet me at five. You accept my terms [inaudible 00:21:43] percentage.<\/p>\n
Brian:
All right, I\u2019ll meet you there. You got it. I got it. Five it is.<\/p>\n
Matt:
The answer is five.<\/p>\n
Dave:
Okay, if five is the average debt, then doesn\u2019t that reason in the next two years, 40% of loans should be due? Because if they come up once every five years, right?<\/p>\n
Matt:
I\u2019m going to let Brian answer that one.<\/p>\n
Brian:
Yeah, well, the problem is that the debt is coming due at a really bad time. Certainly debt is always mature. That happens all the time, but how often does debt mature that was taken out when prices were very high and is maturing at a time when prices are very low? That\u2019s the disease. It isn\u2019t as much the percentage of loans, it\u2019s the timing and the market conditions upon which those loans were originated, versus when they mature. That\u2019s the problem.<\/p>\n
Dave:
I totally agree with that. I just want our listeners to not be shocked by this number of 30%, and that it\u2019s some unusual thing. Because if you consider five to seven years being the average debt, then always, somewhere between 28 and 40% of debt is always coming due in the next two years. So it\u2019s just something to keep things in perspective.<\/p>\n
Matt:
I think it\u2019s somewhat of a shocker number, right, Dave? It is one of those things where it\u2019s like, \u201cWe\u2019re at 40%.\u201d And it makes people say, \u201cOh my goodness, that\u2019s so much debt.\u201d<\/p>\n
Dave:
And I actually think, I read something that I also think actually, that number might be low. It might be higher in the next few years, because it sounds like a lot of operators were able to extend their loans for a year or two based on their initial terms, but those extensions might be running out. And so to Brian\u2019s point, we\u2019re getting some really distressed or bad situations coming due at an inopportune time.<\/p>\n
Matt:
Here\u2019s what I\u2019m hearing. Brian and I are plugged into very lovely rumor mills, and have lots of other friends in the industry. So here\u2019s what the coconut telegraph is telling us that I hear, anyway. Banks are doing workouts. They don\u2019t want these things back, although they\u2019re very pragmatic and very dollars-and-cents-oriented. And if you owe $15 million on a property that is now worth seven, the bank\u2019s probably going to say, \u201cYeah, probably going to need to go and take that thing back and collect as many of our chips as we can.\u201d But if you are in the middle of a value-add program and you\u2019ve got some liquidity, and you\u2019re doing what you can do, what I\u2019m hearing is that banks are doing workouts. And this is on floating rate bridge deals, right? That\u2019s the toxicity that\u2019s in the market, these bridge deals. It\u2019s not so much someone that\u2019s got an agency loan. That they\u2019ve had interest rate locked for the last five years and they got a refi. That person\u2019s going to figure it out.
I\u2019m talking about this bridge loan that they bought two years ago on an asset that they needed to do a ginormous value-add program on, and try and double the value of the property in a year or two, and it didn\u2019t work out, right? I\u2019m hearing banks are doing workouts and they\u2019re allowing people, they\u2019re negotiating. Brian, that\u2019s what I\u2019m hearing. You probably heard this, too. They\u2019re being somewhat negotiable on the rate caps, which are these awful things that are really causing a lot of strain on a lot of owners is these rate cap, which just an insurance policy you got to buy to keep your rate artificially lower than what it really is. I\u2019ve heard that there\u2019s that.
And I\u2019ve heard that the banks are cooperating with owners that can show that they\u2019re doing the right thing. And they\u2019re not so far into the hole that there\u2019s no light at the end of the tunnel. Brian, I\u2019m curious what you\u2019re hearing on that. And again, this is my inner optimist. I am not sure if you want to access that part of the outlook or not. You\u2019re more than welcome to give me the other view.<\/p>\n
Brian:
Yeah, the other view is that they can postpone this stuff all they want, but what they can\u2019t eliminate is the day of reckoning. Sooner or later, something has to happen. They either have to refi, they have to sell, they have to foreclose. Something is going to have to happen sooner or later. Because even if the borrowers have to pay higher interest rates and delay rate caps, sooner or later, the borrowers run out of cash. And then the borrowers have to go to their investors and say, \u201cCan you contribute more cash?\u201d
And the investors are going, \u201cI\u2019m not throwing any more good dollars after bad. No way. I\u2019m not sending you any money.\u201d And then something has to happen. The lenders can do what they can do initially, but then the lenders will start getting pressure. And so here\u2019s what a lot of people don\u2019t realize is that lenders aren\u2019t loaning their own money. Lenders are loaning other people\u2019s money as well. And that might be money that they\u2019re borrowing from a warehouse line, money that they\u2019ve raised from investors, money that they\u2019re getting from depositors. Wherever that money comes from, they might be getting pressure, saying, \u201cYou got to get this stuff off your books. You\u2019re not looking so good.\u201d Regulators are putting on pressure. So eventually, lenders have to say, \u201cWe can\u2019t just kick the can down the road forever. Something\u2019s got to give.\u201d And that day has to come.<\/p>\n
Dave:
Brian, you seem very convinced that the writing is on the wall and a day of reckoning is coming, but Matt, you seem to be more of an optimist. So I\u2019m curious to hear from you. Do you see the same thing? But before we get into that, we have to hear a quick word from our show sponsors.<\/p>\n
Matt:
There are a lot of folks that believe that the Feds saying that they were going to cut rates three times this year that read that. I mean, I talked to one person and said, \u201cWell, they said three, so that probably means nine, right?\u201d Like \u201cWhat?\u201d We\u2019re not going back to the party time of interest rates being 2.5, 3%. That\u2019s not going to happen again. And if the Fed really does cut rates three times, it\u2019s going to be a dent compared to what they\u2019ve done already. So there are folks that believe that by banks cooperating with borrowers, that will allow some time for rates to get down to where the borrower needs them to be. Probably back down to 3.5, 4%. I don\u2019t think that\u2019s going to happen.<\/p>\n
Brian:
Okay, I\u2019ll take that.<\/p>\n
Matt:
Oh, what you got?<\/p>\n
Brian:
I\u2019ll take on that argument. So you\u2019re saying that interest rates aren\u2019t going to get back down to 2%. I agree with you. Now, when interest rates were at 2%, people were buying multifamily properties and all kinds of commercial real estate at extraordinarily high prices. And those high prices means that they were low cap rates. And cap rate is a mathematical formula that\u2019s used to take the temperature of the market. Some people say, \u201cOh, a 4% cap rate means you get a 4% return.\u201d That\u2019s hogwash. We can have a whole show on that. But the bottom line is that very low cap rates, this mathematical formula that we\u2019re talking about, it means that the market is extraordinarily hot. The market is not extraordinarily hot anymore.
So a 4% cap rate, that\u2019s now a 6% cap rate, what that means is that\u2019s a 2% difference. Doesn\u2019t sound like much, but going from a 4 to a 6 is a 50% haircut in value. Mathematically speaking, you have to cut the price of the property by 50% for the income to go from a 4% cap rate to a 6% cap rate. And that\u2019s what we\u2019re seeing now. So when these loans finally do come due, and the property is worth half of what it was at the time the loan was originated, what may happen? The lender is really going to force their hand when the value can climb just high enough for the lender to get their money back. They don\u2019t care about the owner, they don\u2019t care about the borrower. They don\u2019t care about the investors that put their hard-earned money into that deal. All the lender wants is their money back. And as soon as that moment comes, the bank is suddenly going to become that much less cooperative.
And when that happens, that\u2019s the day of reckoning. It has to happen sooner or later. Now don\u2019t get me wrong. I mean, I have a lot of this pessimism and stuff, but fundamentally, the fundamentals of housing are extraordinarily sound. People need to have a place to live. There\u2019s a housing shortage across the US. Right now, there\u2019s a little bit of a glut of construction. That\u2019s going to work its way out, because nobody can afford to get a construction loan right now. Banks aren\u2019t lending. Pretty soon, all the new deliveries are going to stop. The fundamentals of housing are sound. Housing is a good investment, but timing means something. Buying at the bottom of the market and riding the wave up is so much different of an outcome than if you\u2019re buying before the market is finished falling, and you have to ride through a three or four-year cycle to get right back to even. That just doesn\u2019t work. So I\u2019m bullish for maybe 2025, 2026, 2027, but short-term bullish, no. I can\u2019t get there. The fundamentals are there, but the rest of the equation just doesn\u2019t work yet.<\/p>\n
Dave:
So now that we\u2019ve heard your takes on both last year, 2023, and what might happen this year, what advice would you give to investors who want to be in the multifamily market this year?<\/p>\n
Matt:
Great question, because unless you\u2019re Brian Burke, you can\u2019t just hang out on the beach and play golf, I mean, in that. So let\u2019s see how Brian handles that one. For what I think that investors should do, if they really want to get into the multifamily market, if they want to get involved in what I think is going to be a changing market, and there will be opportunities that are going to come up, what I believe you should do is to do what we did, which is stay super-market-centric. If it\u2019s Atlanta, because according to Brian, 30% of the multifamilies in Atlanta are going to be refinancing or with debt coming due, just for example, and that\u2019s probably true in most markets, if you stay market-centric, pick a market. Not 2, not 10. A market. And get to know all the brokers in that market. There are deals that are going to come up of that 30% that are likely going to be sold at a significant discount off the market.
Is market pricing where it\u2019s going to be a big solid yes to get in? No, I don\u2019t think it is. I don\u2019t think that the market itself, where all the properties going to be trading or what sellers are going to be asking is going to make sense. So I think that you need to be the riches in the niches, so to speak, to find a market. And then get networked and look for opportunities that may come up. You could also do what we did, which is continue to monitor multifamily, make bids, rebid, something like 280 deals last year, or at least analyzed 280 deals and bid most of those as well.
But we also looked at other asset classes as well. Our company\u2019s looking at everything from flagged hotels, and that is a solid asset class that makes a lot of cashflow, to other asset classes, including loans. Our company\u2019s getting into issuing loans for cashflow. And the bottom line, guys, is whatever you get yourself into this year, it\u2019s got to be a cash-flowing asset. It\u2019s got to be something that produces regular measurable cashflow on a monthly quarterly basis, because cashflow is what got my company, DeRosa Group, through 2008, \u201909, \u201910. And it\u2019s what\u2019s going to get folks through 2014, \u201915, and into the future, is cash-flowing assets. And not 2, 3, 4% cashflow. Significant, high-single-digit cashflow is what you\u2019re going to need to go after. So that\u2019s what I say you pursue.<\/p>\n
Brian:
All right, well, challenge accepted, Matt. So not everybody has to sit on the beach for the next year. I can\u2019t make that claim. I might, and I might not. There might be some opportunities out there to buy this year.<\/p>\n
Matt:
You\u2019re too itchy, man. But I don\u2019t see you sitting on the beach.<\/p>\n
Brian:
Yeah, probably not.<\/p>\n
Matt:
You\u2019re going to be doing it, too.<\/p>\n
Brian:
I got to do something. I got to do something. There\u2019s no doubt about that. So here\u2019s my thoughts on this are, if you\u2019re just getting started in real estate investing or you\u2019re just getting started in multifamily, you actually have an advantage over Matt and myself. And that may seem awful interesting to make that claim, but here\u2019s why I say that. I think that you\u2019re going to find more opportunity in small multifamily now than you will in large multi. Now I\u2019m not going to go out and buy anything less than a hundred units. For our company, it just doesn\u2019t make sense to do that. Matt is probably somewhere in that zone, too. We\u2019re not out in the duplex, fourplex, 10-unit, 20-unit space.
But if you\u2019re new to multi, that\u2019s really where you should start, anyway. You want to get that experience and that knowledge, and figure out how it works. That helps you build an investor base. It helps you build broker relationships. And frankly, in that space, in those small multi space, I think that\u2019s where the needles are going to be found in the haystacks. Because it\u2019s the small deals where you have the mom and pop landlords, that quintessential, as they\u2019ve called, the tired landlord that wants to get out. That\u2019s where the people are searching eviction records to talk to the owner to see, \u201cHey, I see you have all these evictions. Do you want to sell? Because it\u2019s a pain in the neck.\u201d
And people are like, \u201cYeah, I\u2019m out.\u201d You\u2019ve got retiring owners that want to get out. That\u2019s where you\u2019re going to find opportunity in my view. I don\u2019t think you\u2019re going to find opportunity in 100 and 200-unit deals, because number one, those buyers are very sophisticated, generally well-capitalized. But even if they\u2019re not, they\u2019ve got sophisticated lenders, they\u2019ve got all kinds of challenges, prices are down. They probably haven\u2019t owned them all that long. They have a ton of equity, versus the mom and pop landlord that\u2019s owned it for 50 years that has the thing paid off. They could even maybe give you seller financing.
If you want to get started, I would suggest getting started right now on two things. One, build your business. Build your systems, build your investor base, build your broker relationships, because those are all things there\u2019s plenty of time to do. Brokers will return your calls right now, because no one else is calling them. You might as well give them a call. Build that stuff now, because when you are busy and the market is taking off, you\u2019re going to be running a hundred miles an hour with your hair on fire. There\u2019s going to be no time to do that.
The other thing, build all of your systems. Get together your underwriting system, learn how to underwrite. Take Matt\u2019s classes and BP\u2019s seminars, and all this different stuff. Learn how to analyze deals and get ready. And then go out and look for smaller multi, where all the deals are. That\u2019s going to be a great way to start. Then when all the big multi comes back in a year, two, three, however long it takes, you\u2019ll be more ready for that, because you\u2019ll have all this experience and you\u2019ll have all the systems. You\u2019ll have the relationships. And I think that\u2019s really the play right now.<\/p>\n
Matt:
Well said.<\/p>\n
Dave:
So Matt, tell us just briefly, what are you going to do in 2024?<\/p>\n
Matt:
Great question. What DeRosa Group, our company, is going to do is we\u2019re going to continue to monitor multifamily in the markets we\u2019re already invested in, so we can continue to scale out geographically in those geographic markets. We\u2019re going to pursue new asset classes. Like I said, flagged hotels is an asset class that we\u2019re going after aggressively. And we also have a fund that just puts money into hard money, just a debt fund. That\u2019s just an easy way to turn money around and produce easy cash flow. So we\u2019re keeping our investors\u2019 funds moving in other asset classes, while we monitor multifamily very, very closely, continue to bid it, and hope that we find something that makes fiscal sense for our investors.<\/p>\n
Dave:
And what about you, Brian? Is it just golf this year?<\/p>\n
Brian:
Yeah, I\u2019m not that good of a golfer. So I\u2019d like to say that, yeah, I could just play golf all year, but I\u2019m really not that good. So I think, no, we\u2019ll do more than that. Just like Matt, we are watching the multifamily market extremely closely. We\u2019re looking for the signs and signals that we\u2019ve reached the bottom, and it\u2019s time to invest. Meanwhile, we\u2019re investing in real estate debt. We have a debt fund where we\u2019ve been buying loans that are secured by real estate to professional real estate investors. I think right now, the play for us is we\u2019re more of watching out for downside risk than trying to push upside. So that\u2019s going to be our play for 2024. And then as soon as we see the right signal, then it\u2019s full speed ahead on searching for upside again.<\/p>\n
Dave:
All right. Well, thank you both so much for joining us. We really appreciate your insights and your friendly debates here. Hopefully, we\u2019ll have you both back on in a couple of months to continue this conversation.<\/p>\n
Brian:
Can\u2019t wait.<\/p>\n
Dave:
On the Market was created by me, Dave Meyer and Kailyn Bennett. The show is produced by Kailyn Bennett, with editing by Exodus Media. Copywriting is by Calico Content. And we want to extend a big thank you to everyone at BiggerPockets for making this show possible.<\/p>\n
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