The pursuit of balance in the low-income housing tax credit (LIHTC) market will likely lead to a price drop for developers in many regions in the next several months.
This correction is needed in order to meet the yield expectations of tax credit investors, especially in non- Community Reinvestment Act (CRA) areas, according to a majority of the syndicators surveyed in July.
“The divide between CRA and non-CRA is widening,” says Tony Bertoldi, senior vice president of syndication and investor relations at City Real Estate Advisors, Inc. “I would expect price per credit on CRA deals in certain markets to stay the same or increase. However, price per credit on non-CRA deals is decreasing. The economic buyers are pulling back or are on hold for various reasons, and demand from them is decreasing in some cases significantly. I don't think we quite know yet how this will all pan out, but we are concerned and pulling back our buying on the non-CRA deals.”
The challenge is to find a balance between good prices for developers who sell their tax credits to finance their affordable housing developments and strong yields to investors who buy the credits.
Returns also have to be high enough to keep a diverse group of buyers in the market, not just the major banks that invest primarily to meet their CRA obligations.
Where will the market go is the question, says Peter Sargent, director of capital development, at Massachusetts Housing Investment Corp.
“I expect pricing to remain flat or back up a little except in major urban markets with high CRA competition,” he says. “Yields need to increase about 100 basis points to bring non-CRA investors back into the market in a meaningful way.”
Greg Judge, COO of Boston Financial Investment Management, agrees on the higher returns. “There currently is a divergence in demand between our historical core investors and the new or renewed investors of the past three years,” he says. “Consequently, yields need to rise 50 to 100 basis points to develop a more consistent investor base.”
AFFORDABLE HOUSING FINANCE's mid-year poll of 22 national and regional syndicators found that the average price paid per dollar of tax credit in the second quarter was $0.89, up from $0.87 at the end of last year.
Yields to investors averaged 6.5 percent in the second quarter, a shade down from the 6.7 percent reported for the fourth quarter of 2011.
The surveyed syndicators make up a significant portion of the tax credit market. They closed a combined $3.6 billion in LIHTC equity and acquired 506 properties in the first half of the year.
The recent credit prices and yields were in line with the expectations of syndicators, who were in strong agreement in January that the market would hold steady in the first half of 2012.
The second-half outlook isn't as clear. Eleven syndicators surveyed in July predict prices to slip in the next several months. Five others expect prices to stay about the same or possibly even increase a bit. At the same time, several noted that the market has become tough to predict.
“There seems to be a clear and absolute floor of 6 percent [yields] for national multi-investor LIHTC funds,” says Ryan Sfreddo, managing director at Red Stone Equity Partners. “As a result, one might conclude that corresponding tax credit prices should level off or fall. However, that's not what we are seeing on the buy side. Instead, the buy side and the sell side seem to be a bit out of sync, and it's creating a dangerous dynamic for developers. It's a completely different story in the urban centers, where there is a strong bank presence. In these CRA markets, prices continue to rise beyond comprehension, and yields continue to fall through the floor.”
Building the investor base
Syndicators are clearly concerned about a waning pool of investors this year, citing it as their top issue. Having a deep well of buyers helps the overall health of the market.
Sfreddo explains that some new investors who have entered the market during the past two years have been scared off by the rapid rise in pricing and corresponding drop in yields. “We have thus run the risk of again of having, as we did in the 2006-07 timeframe, an undiversified investor base where we become too dependent on too few investors,” he says.
Officials at other firms are also nervous about investors and their appetites for tax credits.
“I am concerned that many of the economic investors have pulled out of the market due to the fall in yields, and unless we can attract them back we will see a drop off of investment in the non-CRA markets,” says Raoul Moore, senior vice president and head of syndication at Enterprise Community Investment, Inc.
Given the market outlook and anxiety about the investor pool, it's not surprising that several syndicators say developers should watch for a change in pricing in the next six to 12 months.
They could see downward pressure as investors seek higher returns, says Mark McDaniel, president and CEO of Great Lakes Capital Fund. Developers need to be aware of the “possible repricing of deals if syndicators cannot meet investor demand,” he says.
“Developers should watch for syndicators that cannot close on their transactions or do not have sufficient investor capital to meet limited partner funding obligations,” adds Joe Hagan, president and CEO of National Equity Fund, Inc.
Stephen Daley, executive vice president at The Richman Group Affordable Housing Corp., agrees that sponsor execution is an issue that developers need to watch in the months ahead.
“There is less equity in the market, and most of it is banks that need specific locations,” he explains. “If, for example, a property does not line up for the fund investors, the sponsor may not be able to move forward on the deal. It is important for developers to assess the likelihood of execution.”
“Be aware of signals from the syndicator that a transaction is not clearing the investor market and the possibility of a re-trade on pricing or terms,” adds Tony Alfieri, managing director of tax credit investments at RBC Capital Markets.
Other issues may also surface in the months ahead, including new scrutiny of the Dec. 30, 2013, placedin- service deadline if the 9 percent fixed rate for credits is not extended, says Steve Kropf, executive vice president and director of investments at Raymond James Tax Credit Funds.
Increased insistence on readiness to proceed on projects was also cited as an issue to watch by Jeffrey Goldstein, executive vice president and COO at Boston Capital.
“Developers should be cognizant of construction readiness in order to avoid the potential pitfalls of losing the fixed 9 percent,” he says.
And, finally, concerns about tax reform and the global market need to be monitored, according to Todd Crow, executive vice president and manager of tax credit capital at PNC Real Estate. “Investors will continue to be concerned about terms such as operating reserves, guarantees, and leverage,” he says.