Freddie Mac and Fannie Mae will continue to be major backers of permanent loans to apartment properties in 2022—including luxury properties. But as multifamily investors continue to break records on prices, volumes and cap rates the two government-sponsored agencies will be bound by rigid limits on how much they can spend to buy loans to pricey, class-A apartments so they can focus more on supporting affordable and middle-market housing.
At least half of Freddie Mac and Fannie Mae’s lending business in 2022 will have to be “mission-driven” according to federal officials. That will focus them on lending to workforce housing properties, leaving them less leeway to compete to make loans to luxury buildings.
As investors spend more and more to buy class-A apartments, they will have to find new sources of financing for their deals.
“Freddie Mac and Fannie Mae’s market share will be one of the lowest we have seen in a long time,” says Dave Borsos, vice president of capital markets for the National Multifamily Housing Council. “The natural funder to fill in the gap this year is debt funds.”
Lending caps leave less room for luxury
Investors spent a record-breaking $335.3 billion on multifamily properties in 2021, according to CBRE. That was nearly double 2019’s previous record of $193.1 billion. And already some of that activity shifted away from the Freddie Mac and Fannie Mae. “It didn’t get financed by Freddie Mac and Fannie Mae—they were constrained.”
Freddie Mac and Fannie Mae must operate within strict limits set by the Federal Housing Finance Agency (FHFA), which has overseen the mortgage giants since they were placed into conservatorships by the federal government during the Global Financial Crisis in 2008.
FHFA will allow Freddie Mac and Fannie Mae to purchase up to $78 billion each in loans to apartment properties in 2022. That’s an 11 percent increase from from $70 billion caps in 2021. Market players expect demand for financing from multifamily borrowers to grow by more than that in 2022, creating opportunities for other multifamily lenders.
In addition, at least half of the loans bought by Freddie Mac and Fannie Mae must be to communities with rents affordable to low- and moderate-income households. The lending limits also require Freddie Mac and Fannie Mae to make even more loans to more deeply affordable apartments—25 percent of their loans must be to properties with rents affordable to households earning up to 60 percent of the area median income. That’s up from 20 percent in 2021.
Of course, Freddie Mac and Fannie Mae lenders are still making loans to luxury apartment buildings. “There is still a substantial amount of lending cap available to finance class-A properties,” says Evan Blau, chair of the agency lending and affordable housing practice at Cassin & Cassin.
The limits allow Freddie Mac and Fannie Mae to buy up to $39 billion each in loans to more expensive (less affordable) apartment properties. But even that huge amount can’t grow as the demand for loans from apartment borrowers grows. And the growing demand for loans is likely to allow Freddie Mac and Fannie Mae to increase the interest rates they charge and still win enough business to fill the amount of class-A lending allowed by FHFA.
“Their appetite for this type of product has diminished, at least for now, as they fill up their workforce housing buckets,” says Kyle Draeger, senior managing director of capital markets for CBRE. “As they get more comfortable they will hit their FHFA scorecard and housing goal targets, they will likely get more aggressive with these types of deals.”
Freddie Mac and Fannie Mae are likely to offer lower interest rates to affordable housing properties. "These deals are getting the best pricing quotes,” says Draeger. "At this point in the year, the more affordable the deal, the better the quote."
The FHFA’s lending limits also recognize apartment properties that are more energy efficient.
“Freddie Mac and Fannie Mae are both still focused on these types of deal and they offer pricing discounts of roughly 10 to 20 basis points, depending on the deal,” says Draeger.
In addition, all types of apartment borrowers worry interest rates are likely to rise throughout the U.S. economy. Officials at the Federal Reserve now say they are likely to raise their benchmark interest rates several times in 2022.
Freddie Mac and Fannie Mae loans will be subject to these rising rates like all other lenders. “What they are both trying to do is to lean in slightly on the underwriting of the net operating income from properties to try to maintain loan proceeds as rates rise,” says Draeger.
Debt funds fill the gap
Since Fannie Mae and Freddie Mac lenders can’t ramp up their lending to luxury apartments to meet the growing demand, borrowers are looking for financing from other lenders. Private equity debt funds are one group stepping in to help borrowers finance these deals. Debt funds are flush with capital, says Borsos, and they can underwrite aggressively to offer relatively higher proceeds to borrowers. Debt funds are also offering more competitive interest rates than they could a few years ago. Spread float as low as 175 basis points over the Secured Overnight Financing Rate (SOFR) and often range between 200 and 300, according to anecdotal reports from NMHC members.
“The spreads are pretty astounding,” says Borsos.
However, debt fund loans are floating-rate loans, which can be nerve-wracking since interest rates are likely to inch higher in 2022. “That will start to rain on the parade of the debt funds,” says Borsos.
Many buyers of apartment properties may also prefer longer-term, fixed-rate financing. “Debt funds don’t provide long-term financing… eventually that will have to be filled in,” says Borsos. But despite this debt fund financing has allowed many borrowers to close their purchases of apartment properties.