Investors predict more stability in second half of 2012 Low-income housing tax credit (LIHTC) investors are feeling like it is 2006 again.
The trip in the time machine has been brought on by flying bids, peaking prices, and swelling competition.
“Most surprising, so far this year, is the fact that pricing in certain markets is still going up despite the fact that pricing at the second half of last year approached 2006 and 2007 levels,” says Leila Ahmadifar, director of LIHTC investments at Citi Community Capital.
She has seen pricing in some of the most competitive markets like New York City and San Francisco range from $1 to $1.10 per dollar of credit this year. Other areas have had bids from the high $0.90s to $1.
“It is probably the most competitive market that I've seen during my career,” Ahmadifar adds.
Citi invests primarily through singleinvestor funds, and this year's investments have included a variety of project types, including seniors, family, specialneeds, new and rehabilitation.
Other investors have also been surprised by the level of activity in the first half of the year.
“The appetite has been more voracious than anyone anticipated,” says Beth Stohr, LIHTC director for U.S. Bancorp Community Development Corp. This is likely because there was investor equity carried over from 2011 and very few state housing finance agencies made their LIHTC awards during the first quarter, so there was a limited supply of credits on the market.
The pricing in the heated Community Reinvestment Act (CRA) markets is at or higher than in 2006 when the market was at its peak, but overall pricing has been inconsistent. For investors, it has been difficult to get grounded on where the market is because volatility in pricing has been swift.
“In 2006, you had a general uptick over time,” Stohr says. “Today, there is so much inconsistent exuberance that the pricing is all over the place. Sometimes you can secure a deal at a reasonable price, and next time, in the same market, you can be a dime off.”
U.S. Bancorp makes about 70 percent of its investments on a direct basis and 30 percent in multi-investor funds.
One investor said the high level of competition makes it more difficult to differentiate oneself from the pack. While a firm's strengths may include a smooth execution, which is extremely valuable, it is not as immediate as that “eye-popping pricing quote.”
According to another investor, the competitive environment is also pushing firms to bid on more deals this year just to maintain their investment levels. They know that they are not going to win all of their bids, so they are reviewing and bidding on more projects just to make sure they get some deals.
The expiration of the 9 percent fixed rate has also added a sense of urgency for developers and others, says Laura Bailey, managing vice president at Capital One Community Development Finance.
“It is completely rational—they want to make sure their current developments are placed in service by the end of next year,” she says. “This has led to a large block of pipeline closing right now, and we are all over it.”
It's an issue because developments awarded credits in the second half of 2012 will be very challenged to meet the placed-in-service deadline to utilize the fixed rate unless it is extended. The industry has been working to make the fixed 9 percent tax credit permanent, but that has yet to be approved by Congress.
Sticking to the basics
Despite the recent volatility, most investors expect the market to settle down in the second half of the year, and they are holding firm with their game plans. For them, this is not a time to stray from the fundamentals.
“Sponsor and market selection are our most critical priorities,” says David Leopold, senior vice president of Bank of America Merrill Lynch. “We are also working with our lending platform to take advantage of attractive interest rates and increase proceeds to projects by bridging.”
Bank of America expects to invest at the same levels it has in recent years, which has been in the $600 million to $700 million range.
“At this point, we have a good sense of where capital demand is shaking out, and it points to stability,” Leopold says. “The downward trend in state and local subsidy sources will mean fewer starts in certain markets, but high equity prices will make up for some of that. I expect a robust market for the rest of 2012.”
Stohr agrees. “As more states award credits, I think the market will find a little more equilibrium,” she says. “At the same time, deals will be challenged with a decline in soft financing. Higher pricing helps bridge some of the gaps in soft financing.”
The market is at an interesting point, adds Capital One's Bailey.
“The LIHTC bidding that is going on now is completing 2012 investment budgets and beginning to move into deals that won't close until 2013,” she says. “For 2012, most investors are carrying older pipeline deals that lessen the impact of recent price moves. For 2013, all the older deals will be washed out, and the current pricing is not a good place for an investor to be. I would not be surprised to see push back from investors pick up in late 2012 and solidify in 2013.”
Capital One invests primarily through proprietary funds with leading syndicators and is also an active participant in multi-investor funds.
It has been a growing LIHTC investor even when others were slowing during the recession, and it expects to increase its activities this year.
In addition to doing more overall LIHTC business, the firm is also looking to expand funding for resident services. “Last year, we piloted a program to pair funding for community needs with tax credit investments, and it was well received,” Bailey says.
The program has funded services ranging from on-site community coordinators to a shuttle van for seniors. “We are focusing on using it with nonprofit clients and housing authorities, who are a large share of our customers,” she says.
JPMorgan Capital Corp. is another major LIHTC investor. It will stick to the basics as it looks for quality deals this year, and the company may also look for some secondary transactions, says William Pelletier, managing director of housing investments.
The firm will likely do about 60 transactions, predominantly through its single-investor fund execution with a handful of direct deals this year. In the recent past, its investments in developments under the LIHTC program have exceeded $800 million, and officials hope to be around that level again this year.
Pelletier says he has been seeing and doing more deals that are aimed at serving special-needs populations, and he will keep a close eye on how this trend plays out.
“To be successful these projects often need social services beyond what can be provided for in a typical operating budget,” he says. “Finding sustainable and reliable streams of subsidies we fear may be more challenging in the coming budget-tightening environment.”
The right balance
Although the strong pricing has been good for developers selling their credits, there could be big consequences. If prices get too high and yields fall too low, some investors will drop out.
The major banks steadily invest in LIHTCs to help meet their CRA obligations, but a number of insurance companies and other large corporations invest for economic reasons, especially in recent years when yields soared to more than 10 percent.
It is important for the market to find the right spot to maintain a broad-based investor market, according to Stohr.
“New investors coming into the market with capital want to know it can be invested in a reasonable time frame,” she says. “If investing that money takes too long or the anticipated yield is not achieved, that can discourage consistent, ongoing investment.”
The ideal situation is to have a broad base of investors. That works to ensure a pool of investors to step up as others step out of the market, Stohr explains.
Allstate's history with housing tax credits dates back to about 1998, but, like many investors, it stepped out of the market in 2008. The company returned in 2010 after seeing good opportunities in the market and its existing LIHTC portfolio performing well.
Allstate invests in multi-investor funds through syndicators. As a result, the company has a national platform and a diverse portfolio of urban, suburban, and rural properties.
“What I'm seeing in 2012 so far is a leveling off of yields,” says Mary Pat McKeown, portfolio manager at Allstate.
She has seen recent post-tax yields to investors range from slightly below 6 percent to a little more than 7 percent.
Overall, the returns are still attractive, but Allstate is keeping a close watch on yields and exploring the possibility of investing in alternative programs such as wind or solar tax credits.
“We are also looking at the level of risk,” McKeown says. “We always keep a close eye on underlying underwriting, making sure they are maintaining proper reserves and other protective features.”
