The first half of 2017 has seen tremendous lending activity from our correspondent life insurance companies, as several are ahead of plan for their 2017 loan allocations. Essex has recently observed that life companies have been particularly competitive lending on multifamily properties, especially in the past few months.
The multifamily lending space is typically the domain of Freddie Mac and Fannie Mae, but recently, Essex has observed several life companies outperforming the two agencies, both in terms of loan proceeds and interest rate. Two multifamily deals that Essex has worked on in the past two months have stood out in particular. On each deal, life companies were able to offer 5-10% more in loan proceeds and interest rates that were 20-30 basis points (bps) lower than the best agency terms.
Essex believes that its relationship life company lenders will continue to offer better loan terms for those Borrowers looking for moderate to high leverage (40% - 70% LTV) for two reasons. First, life companies are more comfortable looking at a Property’s current financial performance, the quality of the asset, and the strength of the Sponsor. Life Companies rely more on a Property’s in-place rental income and expenses, and less on the Property’s trailing 3-month, 6-month, or 12-month operating statements. Agencies are obligated to underwrite a Property’s recent past performance, and one bad month of occupancy has the potential to significantly limit loan proceeds.
Secondly, a recent Wall Street journal article (link below) articulates how the two agencies are increasingly off-loading mortgage default risk to investors in the form of credit-risk transfers, which may be increasing interest rate spreads for multifamily borrowers. Fannie and Freddie have traditionally purchased mortgages from lenders, packaged them into mortgage-backed securities or bundles of individual loans, and sold these securities to investors with a repayment guaranty backed by the Federal Government in the event of a default. Credit-risk transfers are like traditional mortgage-backed securities, but without the repayment guaranty, and therefore offer higher yields for investors. Sales of these credit risk transfers are increasing, and for the residential mortgage industry, are expected to reach $15 billion in 2017, up from $13 billion in 2016.
Off-loading credit risk to private investors is one way the government is reducing its role in the U.S. mortgage market. However, private investors naturally demand a higher yield for buying these riskier assets, and as a result, agencies will need to increase interest rate spreads for multifamily borrowers in concert. Essex has already seen several cases of agency lenders increasing their interest rate spreads 20-30 bps in the past six months.
Essex believes that these two factors provide an excellent opportunity for multifamily investors to secure long-term life company financing with attractive terms, rates, and loan proceeds. Our life company lenders are also able to offer construction take-out loans when a new property achieves a 1.0x debt coverage ratio, longer loan terms for generational assets (15-30 years fixed), and forward loan commitments up to 12 months (9 months beyond the free 90 day initial rate lock). Most life company loans that Essex originates will also be serviced by our in-house team of servicing professionals, which currently services a 700-property, $3.5 billion loan portfolio and is frequently hailed as being best-in-class.