Low-income housing tax credit (LIHTC) prices hit an average of $1.03 in the second quarter of 2016, according to an affordable housing finance survey.
This high-water mark is up from 97 cents per dollar of credit a year earlier and 99 cents in the fourth quarter of last year.
“Pricing continues to increase such that all markets are over $1 per credit, even in smaller markets,” says Joe Hagan, president and CEO of the National Equity Fund.
Looking ahead to the second half of the year, a solid majority of syndicators predict that current prices will hold steady in the next several months. While 65% of market experts expect little change ahead, the rest of the surveyed syndicators are evenly split on whether prices will increase or decrease before the year ends.
Mark McDaniel, president and CEO of Cinnaire, is among those who expect prices to remain stable or possibly even decrease. “It appears that the market is beginning to shift in the direction of IRRs [internal rates of return] turning upward,” he says. “While there is good demand on the investor side, it doesn’t seem as strong as last year, at least from the economic investors.”
He notes that the majority of demand comes from investors looking to meet their Community Reinvestment Act (CRA) obligations.
“We’re seeing some syndicators beginning to increase the yields on funds that have already been introduced into the market, signaling that they may be having issues with attracting sufficient equity for ‘non-hot’ CRA deals at their current IRR levels,” McDaniel says.
There are several reasons why the recent gravity-defying prices may come back to Earth.
“As the economy strengthens and interest rates rise, we believe there will be more alternatives available in the market, potentially making the asset class less desirable than it has been over the past couple of years from a return perspective,” says Tony Bertoldi, executive vice president, syndication and investor relations, at CREA (formerly City Real Estate Advisors).
“Additionally, with the most recent launch of several multi-investor funds, investors have sent a strong message that they’re not willing to invest in funds for economic purposes with returns projected below 5%. Syndicators won’t be able to operate profitably with a wider spread between the buy and the sell, which leads us to believe that we’re near the top of the market in terms of price per credit and yield,” Bertoldi adds.
That said, many syndicators had been predicting that prices would stabilize for more than a year, yet prices have kept ticking up because of strong investor demand for credits.
The increase in prices paid to developers for their LIHTCs has meant a decline in investor yields, which fell to an average of 4.6%, reveals AHF’s midyear survey of 18 syndicators. That’s down from 5.6% a year ago and way down from the 7% mark many industry members had said would be needed to keep economic investors in the market. Now, 5% is the new line in the sand for some buyers.
“We’ve seen the purely economic investors indicate they’ll sit on the sidelines as yields for national product have dipped below 5%,” says Raoul Moore, senior vice president, syndication, at Enterprise Community Investment. “With the demand for credits still far outpacing supply, we don’t anticipate this will have a noticeable effect on the market. There may be a slight dip in pricing for national product.”
The strong LIHTC prices have been important for developers to offset rising construction costs in many markets over the past year.
Not only are costs higher per unit, but construction schedules are longer in some markets, according to Steve Kropf, president and CEO of Raymond James Tax Credit Funds, which led the surveyed firms with $563 million in capital closed in the first half of 2016.
LIHTC leaders are also keeping a close eye on deal terms. Because investors and syndicators are competing hard for deals and often offering similar pricing, it’s led some developers to ask for looser terms such as a reduction in operating reserves and shorter operating deficit guarantee periods.
“The price per credit is the initial driving force, but now we’re seeing every detail negotiated up front, with developers asking for some terms that simply won’t work for investors,” says Stacie Nekus, senior vice president, investor relations, at Alliant Capital, stressing that investors and syndicators need to underwrite deals to work for 15 years.
Developers should also watch for other market changes that may surface. And, they need to be cautious.
“While many economic investors stayed in the market this year, it was largely due to the tiered-pricing approach,” McDaniel says. “It will be interesting to see how much longer CRA investors tolerate the tiered-pricing approach that has emerged during the last year or two as compared to the blended-IRR approach used in the past. With the CRA returns as low as they have gotten, bank investors may start looking for alternative CRA investments.”
Developers should watch for any signs of lower investor demand due to lower yields, adds Tony Alfieri, managing director of RBC Capital Markets, noting that they should be aware of “oversourced deals and the reaction of state agencies and lenders.”
It will also be important to be aware of pricing commitments that go well into 2017. “Developers should be conservative when pricing that far out in a market that is somewhat volatile,” says Gayle Manganello, senior vice president of acquisitions at PNC Real Estate.
“LIHTC deals take months, and even years, to put together. I would caution developers from spending too much in the way of predevelopment dollars on deals that won’t close for 24 to 36 months if those deals are going to need current interest rates and current LIHTC pricing to pencil,” says Ryan Sfreddo, managing director at Red Stone Equity Partners. “In other words, I would temper rate and price expectations over the medium to long term. After all, rates can’t stay at historic lows forever.”
Developers should be staying in communication with their investor partners about potential changes to pricing and deal terms.
“Given the competitive nature of the market currently, we’ve seen some developers come to us to obtain early commitments on pricing to ensure they lock in,” says Christine Cormier, senior vice president, investor relations, at WNC. “To the extent the deal pencils, some developers are looking to lock the pricing in to hedge against a potential downturn in the market.”
MIDYEAR TAX CREDIT ACTIVITY
|Company||$ Closed in First Half (in millions)||LIHTC Projects Acquired in First Half|
|Aegon USA Realty Advisors||217||18|
|Boston Financial Investment Management||157.3||16|
|Community Affordable Housing Equity Corp.||175||13|
|CREA (formerly City Real Estate Advisors)||193||27|
|Enterprise Community Investment||383.4||30|
|Hudson Housing Capital||170||13|
|Massachusetts Housing Investment Corp.||23.3||7|
|National Equity Fund||436.8||41|
|Ohio Capital Corporation for Housing||109||20|
|PNC Real Estate||122||20|
|Raymond James Tax Credit Funds||563||51|
|RBC Capital Markets—Tax Credit Equity Group||456||35|
|Red Stone Equity Partners||218.3||20|
|The Richman Group Affordable Housing Corp.||250||26|