As recent as late 2007 investors and industry experts felt confident that multifamily property values would whether the commercial real estate crisis better than other asset classes. As Q1 2009 comes to a close, this may not be the case. An informal survey by CB Richard Ellis shows that in 33 of 35 major US markets cap rates for multifamily properties have risen an average of 150 bps between March 2008 and March 2009.

Cap rates - the correlation between NOI and market value - have trended up for both stabilized and value-add class A, class B and class C multifamily properties. Class A properties have seen the largest movement in cap rates due to eroding market fundamentals and the lack of liquidity in the credit markets. Additionally, many properties are now overleveraged - thanks in part to the high loan-to-values and minimum DSCR requirements of the CMBS days - and have tripped default clauses in the loan documents flooding the market with foreclosed properties. Stabilized class B and class C properties are effected most by increased vacancies and falling rents - due in most part to the economic recession.

Particularly hit hard by the credit crisis are value-add class B and class C properties. Value-add properties are properties that are neither stabilized nor performing at current market levels. For example, a multifamily property with high vacancies, poor management and significant deferred maintenance and repairs would be considered a value-add play. The lack of liquidity in the credit markets have made it difficult for investors to secure capital for these non-performing assets.

Major MSAs hit the hardest for stabilized Class A properties, include, Atlanta, Houston, New York City, Portland, Phoenix and Jacksonville. Atlanta saw the widest increase, 225 bps, with caps now ranging from 7% to 8%.

For value-add opportunities in the class A space, Atlanta again saw the largest basis point increase, 250 bps, with cap rates ranging from 7% to 7.75%. Surprisingly, cap rates for San Diego value-add properties rose 238 basis points to fall between 6.25% and 7.25%. The Phoenix MSA was also hit hard where cap rates went up 225 basis points to between 7% and 7.5%.

A simple example illustrates the significant impact widening cap rates have on multifamily property values. Assume a property has a cap rate of 5% with net operating income (NOI) of $500k, the value would be $10 million ($500,000/5%). If the cap rate increases 200 bps to 7%, the value is now $7.14 million. Now, assume the property was purchased for $10 million and received a multifamily loan for 80% of the purchase price, $8 million. In this example the property is upside down by a little over 10%. If the loan was securitized (CMBS) the owner could be in default, not to mention a loss in equity of close to $3 million.

Contact a Capital Assets,Inc commercial mortgage analyst to learn how we may be able to help you refinance your commercial real estate loan or multifamily loan.