The apartment building investment loan rate we track ended the year 12 basis points (bp) lower than year-end 2016 at 4.76% (see below for details on this loan rate). At the same time the 10 Year Treasury (T10) also finished lower than a year ago at 2.40% vs 2.45%. So a 12bp difference in a year doesn’t sound like much but the ride was a bit more thrilling than just straight point A to B.
Looking at the orange line above we can see that starting in January the loan rate bumped around much more than recent years (see Sept 2015 for instance) but was generally trending downward until the middle of September. Since then a slight but definite upward trend. This was similar with the T10 as well with the Treasury turning upward in the first week of September.
As can be seen on the chart the ULI rate has been MIA for more than 3 months now and there’s a military officer in dress uniform walking up the driveway so it’s time to say goodbye to the ULI, rate that is and starting next month will no longer appear on our charts. We liked the ULI rate (see below for details) for seeing just how good it could be, along with an opportunity to see rate changes before they filtered down to the more run of the mill loans that non-institutional borrowers had access to.
In reviewing the data we found that the T10 does a better job of predicting apartment loan rate changes which is kind of a no-duh so we’ll continue to track and comment on the T10, the spread and changes to both it and the apartment loan rate.
In 2018 we’ll be sharing our tracking of another important statistic, the spread between the T10 and the T2 which has been a very good predictor of downturns and recessions. We’ll also be sharing our review of some new research that seems to be able to eliminate even the few false positives that the T10-T2 occasionally gives off.
Happy holidays everyone and here’s to a fantastic New Year for us all!
Speaking of the spread between the T10 and the apartment building rate we track, the green line on the chart represents the six months trailing average spread. We track changes in the trend for signs apartment lenders becoming more or less competitive. Note that since rates are only quoted on business days the chart averages the last 120 business days which roughly equates to six calendar months.
We track the 10 year Treasury (T10) because it is the benchmark most lenders base their long term rates on. In order to lure investors away from Treasuries to buy mortgage bonds lenders have to offer a premium (AKA ‘spread’) over what can be earned on the ‘risk free’ Treasury. So when the T10 moves, rates on all kinds of longer term loans including on apartments tend to move also. As you can see in the chart, the spread also widens and narrows as market forces make an impact.
Notes about the apartment loan rates shown in the chart above: The rates shown here are from one West Coast regional lender for loans on existing apartment buildings between $2.5 – 5.0M. The rate quote they send every Monday that I track is a 30 year amortizing loan with a fixed rate for 10 years (They also have other fixed periods at different rates). The max LTV for this loan is 75% (they have an even lower rate on their max 60LTV loans) and the minimum Debt Cover Ratio (DCR, aka DSR or DSCR) is 120. Note too that these are ‘sticker’ rates, LTVs and DCRs and ‘your millage may vary’ depending on how their underwriting develops. I usually figure that we’ll end up at a 70LTV which also helps the debt cover and provides a larger margin of safety, which is half the battle from a value investing standpoint.
The prepay fee is 5,4,3,2,1% for early repayment in the first five years and you do have the ability to get a 90 day rate lock. The minimum loan is $500k (at a slightly higher rate for less than $1M loans) and they’re pretty good to work with as long as you go in knowing that it takes up to 60 days to close their loan. If you are looking at acquiring an apartment building in California, Oregon or Washington I’d be happy to recommend you to my guy there for a quote. Send me a message through this link and I’ll make an introduction for you.
Note that the 15 year rate we track is also a 15 year amortizing loan with very similar terms to the 10yr loan.
The other rate we track is the from the Trepp survey which the ULI (Urban Land Institute) reports on. According to the ULI the Trepp rate is what large institutional borrowers could expect to pay on a 10 year fixed rate, less than 60% LTV loan for a “crème de la crème” core property located in a gateway market. We track this rate as a barometer of what the largest lenders are offering their best customers on the most secure loans for any advanced warning about future rate changes. Note that the spread we chart is between 10yr apartment loan we track and the T10.
How the St. Louis Fed calculates the 10 year Treasury rate displayed above: “Treasury Yield Curve Rates. These rates are commonly referred to as “Constant Maturity Treasury” rates, or CMTs. Yields are interpolated by the Treasury from the daily yield curve. This curve, which relates the yield on a security to its time to maturity is based on the closing market bid yields on actively traded Treasury securities in the over-the-counter market. These market yields are calculated from composites of quotations obtained by the Federal Reserve Bank of New York. The yield values are read from the yield curve at fixed maturities, currently 1, 3 and 6 months and 1, 2, 3, 5, 7, 10, 20, and 30 years. This method provides a yield for a 10 year maturity, for example, even if no outstanding security has exactly 10 years remaining to maturity.” For even more detail see: http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/yieldmethod.aspx
As a reminder, one basis point or 1bp is equal to one-one hundredth of one percent or .0001. When you hear ‘fifty basis points’ that’s one-half of one percent; ‘125bp’ would be 1.25% or a percent and a quarter, sometimes referred to as ‘a point and a quarter’. A bp seems like a tiny number, too fine to make a difference but in the debt world if you can squeak out an extra 20bp on a 100 million dollar deal (like a pool of apartment building loans) that’s $200,000.00 in your pocket. To paraphrase Everett Dirksen: 20bp here, 20bp there and pretty soon you’re talking about real money. If you did that every week for a year that would be $10,000,000 and you’d still have two weeks for vacation!