First Draft Live Ep 13: Debt Meets The Housing Crunch (with Sharon Karaffa)

It’s a high-pressure year for multifamily. Looming maturities, tough capital markets, changing policies, a major shake-up of Fannie Mae and Freddie Mac on the horizon and intensified national attention are all converging to complicate the sector.

But multifamily fundamentals are strong, Sharon Karaffa, president of multifamily debt and structured finance at Newmark, said on this week’s episode.

“Absorption has been very high and vacancies are very low. Most of the supply wave is behind us,” she said. “So we think we’re on the upswing.”

The ending of the conservatorship of Fannie Mae and Freddie Mac could disrupt the market, depending on how exactly it happens.

Karaffa said it is critical that the privatized organizations have a line to the Treasury to maintain affordability, that a strict regulatory framework is put in place to avoid the mess of the Global Financial Crisis and that the agencies are not combined — the market needs both to keep competition alive.

Episode Transcript

Mark Bonner (00:08):
Welcome to First Drive Live. It's Friday,
September 12. I'm Mark BonnerBiznoz, editor in chief coming
to you live from New York. Thankyou to so many of you for tuning
in.
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(00:31):
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Head to biznow.com/firstdraft.That's biznow.com/firstdraft.
Okay, Let's get into today'sstory. Multifamily staring down

(01:15):
$250,000,000,000 in maturitiesnext year. Loans rewritten to
three to 4% now have to refi atsix to 7%.
That's a 20 to 30% equity gapand mesh shops are already
swamped. Some owners will re up,others will hand back the keys.
Now enter the Fed, which stepsin once more next week. A

(01:38):
quarter point cut, 50 basispoints. It would be the first
since last December.
It may ease this thing, but itwon't fix coverage ratios or
stop values from sliding.Meanwhile, in Washington,
they're reshuffling the deckagain. A $30,000,000,000 IPO
could push Fannie and Freddietowards privatization and the

(01:59):
housing bill doubled GSE gapsfor LITEQ to $2,000,000,000
each. That will channel moreequity into affordable deals,
Helpful, but maybe not enough tostudy the conventional market.
When you put it all together,deal flow down 40% year over
year, distressed trades 15 to25% off peak, and

(02:22):
$200,000,000,000 in dry powderwaiting for a reset.
That's the 2025 setup. Unstable,uneven and wide open for those
willing to move, which makestoday the perfect moment to
bring in Sharon Carafa,President of Multifamily Debt
Instructured Finance at Newmark.She'll take us inside where

(02:43):
capital is flowing, where cracksare spreading, and how the next
year could redraw themultifamily map. Send your
questions in the chat. We'll getto as many as we can.
Sharon, welcome to First DraftLive.

Sharon Karaffa (02:55):
Thank you. Thanks, Mark, for having me. I'm
excited for our chat and lookingforward to the conversation.

Mark Bonner (03:00):
So next week, we've got a big moment on the economic
calendar. September 17, JeromePowell is gonna come out and
he's gonna make a decision.Could be 25 basis points. Some
people think it's 50. I thinkit's highly unlikely that it's
not nothing.
But Sharon, assuming that we doget a cut, how meaningful of a
moment will that be for yougiven what you oversee at

(03:22):
Newmark?

Sharon Karaffa (03:23):
Yeah. So I think that, we've been we've been
looking for interest rate cutsand and the market has been
looking for rates to come down.I think for the most part, it's
built in to, the ten yeartreasury already. So much of the
debt, that we do is based on thelonger end of the curve. Might
we see more variable ratebusiness get done?

(03:44):
Sure. But for the most part, theten year treasury tends to track
expectations, for futureeconomic conditions and future
Fed policy. And so I think it'sbuilt in. Essentially, lower
rates are helpful for sureacross the board, but market
fundamentals are also gonna helpkind of continue the
continuation of improvement inmarket fundamentals will help us

(04:06):
drive through some of thecomplexities that you mentioned.

Mark Bonner (04:08):
The industry and Wall Street have been screaming
for this for a long time. Thepresident of The United States
has been screaming for this fora long time. This is a highly
politicized decision whether welike it or not. Is it overhyped?
I mean, does this really movethe market for you, Sharon, if
we get this 25 or 50 basis pointreduction?

Sharon Karaffa (04:28):
I do think it I think generally it does help
trigger some more transactionvolume. But again, I think our
our clients and I think theinvestors in the multifamily
market, have have built in thisexpectation.

Mark Bonner (04:43):
Okay. Listen. Debt service coverage ratios that
worked in 2021 are no longerpenciling, as you know.
Mezzanine letters are alreadyfielding more rescue capital
request. We set this up in theintro.
How many of these maturities doyou expect to fail at the refi
stage?

Sharon Karaffa (05:01):
Yeah. So I think that we're going to see some
distress for sure. I'm not surehow much failure we'll see.
Regarding the maturing book in2025, you know, our research
team has sliced and diced this athousand different ways. And I
think it won't be as bad as somemay have feared, and it won't be
as bad as we initially expected.
And I think it's important totake a look at, when these loans

(05:24):
were originated and whooriginated them. So if we look
at the vintage of the maturingloans this year, 40% of them
were originated between 2016 and2021. So all the deals before
2016, you can sort of assumethey've had enough growth that
they'll be able to weatherhigher interest rates in a
refinance. Anything originated2022 and beyond maybe has an

(05:49):
extension option in there. Sowe're really talking about maybe
40% of that number.
And then you need to thinkabout, who, originated the
loans. An MBA report came outearlier this week that showed
SDQs ticking upward formultifamily, but the real issues
appear to be in the CMBS book.So 10% of what's maturing this

(06:10):
year was originated by CMBS. 70%was banks and debt funds. And so
what we've seen in the bank anddebt fund space is that, banks,
particularly for relationshipborrowers and debt funds for
sure, have been working withborrowers to either extend loans
or modify loans, oftentimeslooking for some sort of capital

(06:30):
infusion from the borrower.
But with that, we've been ableto see banks kind of work
through issues with borrowers.There is a chunk of loans in
that 70% that has already beenextended once. So perhaps we may
see some distress there. Ourresearch team has estimated that
25% of those loans this year maysee some distress, not

(06:54):
necessarily expected to fail,but perhaps may be distressed.

Mark Bonner (06:59):
Look, can rescue capital and mezz fill that gap?
If so, how?

Sharon Karaffa (07:05):
Yeah. So I think we're seeing some rescue capital
and mezz for sure. There's a lotof liquidity in the market. But
again, these modifications andextensions have been helpful as
well. We are seeing borrowerscontinue to feed properties
where that's helpful andnecessary.
We haven't seen multifamilyowners handing back keys. If we
look past 2025 and start tothink about maturities between

(07:28):
now and 2027, and we look at thedata that's available publicly
through securitized loans, wethink that a little bit more
than half of it is operatingbelow at or below a one o debt
cover. So for that subset ofloans, it will be difficult for
those to cover higher debtcosts, and we'll need to see
continued property fundamentalsimprove to help those properties

(07:51):
at the time of maturity orrefinance.

Mark Bonner (07:55):
Meanwhile, FHFA is preparing a potential
$30,000,000,000 IPO of FannieMae and Freddie Mac, signaling a
real push toward privateprivatization. At the same time,
political opposition is heatingup. Some lawmakers warning this
move could destabilize the housethe housing finance system. If
Fannie and Freddie areprivatized, how quickly would

(08:15):
liquidity drive for multifamilyborrowers, Sharon?

Sharon Karaffa (08:19):
So a 30,000,000,000 IPO would be the
largest IPO in the history ofIPOs. So that's sort of one
thing to keep in mind. I don'tsee a scenario where liquidity
and multifamily dries up.There's a lot of private capital
in this space. So on average,the GSEs account for 40% of
financing, but that could bemore in times, and that could be

(08:40):
less in times.
Private capital tends to come inas needed, but there could be
some degree of disruption causedby GSE reform, and that depends
on the method in which the GSEsare privatized. I do think
there's a lot of smart people inthe room trying to figure this
out, so I'm not expecting it tobe catastrophic. But there could
be some uncertainty when changefirst occurs. I don't think

(09:02):
we'll see significantdisruption. But if we can go
back a minute and just talkabout conservatorship and how we
got to where we are, The GSEswere placed in conservatorship
in 02/2008.
They've been there for seventeenyears. That's like almost a full
grown adult, which we talkedabout. I know because I was on
maternity leave at that time. Ihad my son. We just celebrated
his seventeenth birthday.

(09:23):
So here we are. It was neverintended to be this long. It was
never intended to be forever. Sowe do need to find a way to get
to the other side. And wascreated initially chartered by
Congress to promote affordablehomeownership in The US.
And then Freddie was createdwith a similar mission to offer
competition. And thatcompetition is very good and

(09:45):
very healthy for home buyers,for apartment owners, and for
renters. The competition iscritical. At the end of 02/2008,
when they were put inconservatorship, they entered
into an agreement with Treasury.And for the next four years,
they drew about $190,000,000,000from Treasury.
During that time, themultifamily divisions of both

(10:06):
Fannie Mae and Freddie Mac wereprofitable. So that's
interesting to kind of fileaway. In 2012, so four years in,
they since began to beprofitable again and began
paying dividends to thetreasury. And from that time
until 2019, the treasury sweptall net worth. So essentially

(10:27):
300,000,000,000.
So 190 drew or borrowed and300,000,000,000 went back to the
treasury. At that time, that wasthe you know, there's there's
been talks of GSE reform since02/2008. But at that time, it
was decided that there couldnever be privatization of the
agencies if they had no capital.So they were allowed to start
accumulating capital. They'restill shy of the required

(10:51):
capital that's established forthem by FHFA.
And it's anticipated that ifthey continue perform at the
level that they have and expectto, they'll reach full
capitalization in 2027 or 2028.So we're getting closer, but
they still don't have thosecapital reserves, banked yet. So

(11:11):
we're still a few years away.

Mark Bonner (11:13):
We a very different type of individual who lives at
1600 Pennsylvania Avenue thesedays, right? I agree with you
that the 30,000,000,000 IPO isfantastical, okay? But what's
the most realistic scenario thatyou see, Sharon, here? I mean,
are we talking about continuedstatus quo, partial
privatization, or a full handoffto private capital? Something's

(11:34):
gotta give here.
Right? The president, once heputs his eye on something, he
does not look away.

Sharon Karaffa (11:39):
Yeah. And there's a path to getting there
for sure, and I and I do believewe will get there. I think it
will be something in the middle,something partial. As I
mentioned, the GSEs haven'treceived their cap haven't
achieved their capitalrequirements yet. And some
actions to to take private canbe triggered by the executive
branch.
A lot will involve congress. SoI do think something in the

(12:01):
middle is is where we'll land,but there's a few things that I
think are really critical and afew ideas that have been floated
that I do think could bedetrimental. So the things that
I think are most critical is theline to treasury. So you need to
maintain that line to treasury.That's an historically been an
implied or an explicitgovernment guarantee.
That's what allows Fannie andFreddie to trade their

(12:22):
securities at triple a levels,and that's needed to maintain
and achieve affordability in thehousing market. Then you need a
very strong regulatory frameworkthat ensures confidence and
financial soundness so that wedon't get into a mess like we
did in 2008 again. And then Ithink lastly, the agencies,

(12:42):
particularly in multifamily,have very different models. And
I touched on how they did nothave losses from 2008 to 2012.
There's several factorscontributing to that, but one of
them is that they, transferrisk.
And in the Fannie Mae model,they rely on their delegated
lenders to share in the losssharing and share in the credit
risk. And in the Freddie Macmodel, they sell, they aggregate

(13:06):
and securitize and sell Bpieces. And so they've got
private equity involved in thefinancial risk of their
transactions. The two platformsare needed. And there's been
discussion of combining theagencies.
The market needs thecompetition. A monopoly is not
great for innovation.Competition drives better

(13:28):
products and terms and pricingfor market participants, and it
diversifies risks. So I think wecan find a way to get there. It
will take time.
We need to be thoughtful aboutmultifamily, the impact to
multifamily. One third of everyAmerican is a renter. So we need
to be thoughtful when we solvethis GSE problem for single

(13:49):
family. We're consideringmultifamily as well, and do it
in a way that maintainsaffordability and stability and
liquidity to the market.

Mark Bonner (13:58):
If you're just joining us, this is First Draft
Live. We're unpackingmultifamily's refinancing crunch
and policy shakeups with SharonCarafa, president of multifamily
debt and structured finance atNewmark. Let's talk one big
beautiful bill. It just expandedthe LITECH program. FHFA also
doubled GSE investment caps inLITECH properties from

(14:19):
1,000,000,000 to 2,000,000,000annually, each for Fannie and
Freddie, with at least halfdirected to the hardest to serve
markets.
Sharon, how much new equity doyou expect these new LITEC
reforms to actually unleash intothe market over the next twelve
months?

Sharon Karaffa (14:36):
Yeah, I think, the LITEC program is arguably
one of the most powerful toolsthat the US government has in
support of new supply andpreservation of affordable
housing. It's especiallypowerful because it's a public
private partnership, which is ademonstrated successful model.
The reforms to the LITECHprogram essentially extend and

(14:57):
expand the program and then alsomake them permanent, which
provides more predictability todevelopers over the long term.
It's a great step forward inaddressing the affordable
housing challenges that we havein our country today. The
increase in LITEC allocations,we think will result in the
production or preservation ofover 1,000,000, 1.2 in

(15:18):
additional affordable rentalunits.
That's over the next decade. Butwe're already starting to see
states make policy changes toeffectuate the new program. You
also mentioned FHFA increasedthe amount of equity that each
GSE can invest in LITECH. Fannieand Freddie had to exit the
LITECH equity market in 2008when they went into

(15:40):
conservatorship. And for years,they were kind of placed to the
side.
But in an effort to supportaffordable housing, and
complement their duties to serveprogram, which essentially
requires them to serveunderserved markets, they've
been able to reenter the market.So they started with 500,000,000
each and then bumped to1,000,000,000. And now with this
change, as you mentioned, itgets to 2,000,000,000. So this

(16:01):
is a meaningful infusion ofequity into the market,
unlocking 4,000,000,000 ofequity capital for affordable
housing projects. At least halfof that expanded investment,
directed toward underservedmarkets.

Mark Bonner (16:15):
So you don't think it's going be a drop in the
bucket?

Sharon Karaffa (16:17):
I don't think it's a drop in the bucket for
affordable housing. I think anysupply is great. We need more
supply. So this will certainlytrigger additional supply of
affordable housing, andparticularly in areas that have
been underserved by traditionalinvestment channels. I don't
think it's likely tosignificantly impact the dynamic
in the conventional multifamilymarket, but I think additional

(16:38):
supply is needed and certainlywill help.
We still need more, but it's agreat step forward.

Mark Bonner (16:46):
FHFA has kept twenty twenty five multifamily
loan purchase caps at73,000,000,000, each for Fannie
and Freddie with 50% missiondriven allocations. Banks remain
cautious. Debt funds arecircling. Private lenders are
cherry picking only thestrongest sponsors. Deal volume
this year has fallen by morethan 40% year over year.

(17:07):
Which lenders are actuallyclosing deals right now?

Sharon Karaffa (17:11):
We we are seeing a tremendous amount of interest
and lending kind of across theboard. The GSEs still are really
the backbone in multifamilylending right now. In fact, they
haven't released their Augustnumbers, but through July,
Fannie Mae is up 44%. FreddieMac is up 23 and a half percent.
So we're not seeing a slowdownin the GSE space at all.

(17:33):
In fact, for the first time inseveral years, the agencies are
managing to their caps again andexpecting to come close to their
caps and trying hard to reachtheir caps. Additionally, you
mentioned 73,000,000,000 foreach Fannie and Freddie, but
there is some affordableprograms that they lend on that
can be exempt from thosenumbers. So theoretically, they
could do more business this yearthan they've been able to do

(17:53):
previously. And I know that theytry really hard and they focus
on those products as well.Further, if they ever needed
additional capital, they do havea direct line to FHFA.
The director of FHFA is thechair of each of the board. And
so there's certainly channelsfor them to request additional
capacity if they need it. But weare finding Fannie and Freddie

(18:16):
to be really aggressive rightnow. They're working hard to be
creative and innovative. OurNewmark's Fannie and Freddie
business is up over 35% yearover year.
We're seeing them lean intostabilized, like near stabilized
properties, trying to help banksby refinancing construction
loans earlier into permanentloans. They're leaning into
structured products, which offerborrowers flexibility, in return

(18:40):
for crossing assets. So theythey both have a desire to
innovate, a desire to do morebusiness, and to to achieve
their caps. In our book, we'realso seeing, more business from
debt funds and banks. So we'reactually seeing, lenders across
the board continue to be active.

Mark Bonner (18:56):
Sure. And I know you travel the country a lot. I
mean, are you seeing regionalhotspots where financing is
still flowing? Like where on themap are you excited about right
now?

Sharon Karaffa (19:06):
So we see financing flowing across the
country in every market. Gatewaymarkets have remained especially
liquid, New York, LA, Chicago,Dallas, New Jersey. So we're
seeing a lot in gateway markets,a lot of liquidity. And I would
say there's more markets thanthat aren't that are getting a
lot of liquidity. The themarkets that maybe lenders were

(19:29):
seeing be a little bit morecautious or perhaps a little bit
more conservative would be inthose markets where there's been
a lot of new supply that isrecently having recently been
delivered.

Mark Bonner (19:39):
Okay, let's go to a question from the audience.
Thirty year mortgage justdropped down to 6.3% and is
probably going to keep goingdown. Where does it have to be
to start taking demand back awayfrom rental multifamily? And is
that a concern at all forapartment investors?

Sharon Karaffa (20:00):
That's one factor for sure. And when we
look at our analysis of the costto be a homeowner and the cost
to be a renter, currently it'sstill $1,200 a month more
expensive to be a homeowner thana renter. So that is one factor,
but we're also seeing, you know,the generation that is currently
renting, wanting to be rentingand being a little bit more

(20:22):
transitory. So that's onefactor. It's not the only
factor, but yes, it's one pieceof information that we watch.
But we think, the demand formultifamily continues. And so
yes, one factor as one of many.

Mark Bonner (20:40):
You know, I've been talking to a couple of my
reporters this week inanticipation of our conversation
and, you know, they're startingto see distressed trades hit.
Discounts of 15 to 25%, wellbelow peak pricing in some
metros. Delinquencies arecreeping up. Services are
beating the test loan sales. Thebig question is whether these
deals will set a new baselinefor valuations.

(21:00):
And to that end, do you thinkwe're at the start of true price
discovery or are we still inthat denial phase?

Sharon Karaffa (21:07):
Yeah. I think we're past denial. I think we're
solidly in

Mark Bonner (21:11):
That's good.

Sharon Karaffa (21:12):
Yeah. That's good. I think we're past it. I
think we're also and yes, witheach trade, we're setting new
benchmarks, but I think we're onthe upswing. And I think
investors in multifamily overthe last few years have had to
get comfortable with volatilityand uncertainty, and it's kind
of come down to how motivatorhow motivated is an investor to
transact.

(21:33):
Our sales volume is up year overyear. The fundamentals in
multifamily are strong. Supplyhas been absorbed. Absorption
has been very high. Vacanciesare low.
Much of the new supply wave isbehind us. So we think that,
we're kind of on the upswing andseeing a lot of activity in the

(21:55):
sales market and a lot of BOVactivity throughout the country.

Mark Bonner (21:59):
So, I I don't wanna put words in your mouth, but do
you expect to see more of thesedistressed sales accelerate in
the next six months as we geteven more used to this new
normal, this new time ofuncertainty that seems like it's
going to be with us for manyyears? Or do you think lenders
are going to drag this out?

Sharon Karaffa (22:16):
Yeah. I think we were really fearful in
anticipating the huge supplycoming online over the last few
years. I think we were fearfulwith the the, you know,
significant amount of variablerate financing that borrowers
are having to deal with whenrates reset. But we've seen it
sort of work itself out.Distress has really only
marginally materialized.

(22:38):
So we're not anticipating alarge amount of distressed sales
to accelerate. I think along theedges, we will see some. I think
lenders will continue to workwith borrowers, but I think more
than that, the high absorption,the low vacancy We'll continue

(22:59):
to improve the fundamentals.We'll start to see more rent
growth, combine that with somelower rates, and we'll be back.

Mark Bonner (23:08):
Look, as we discussed earlier before the
show got started, 2025 isbringing a collision of forces,
right? Record maturities,Washington policy shifts and
everything that comes with thataffordability pressures in
nearly every Metro in the Lower48. At the same time, there's
this $200,000,000,000 in drypowder just sitting on the

(23:30):
sidelines waiting for clarity.So, Sharon, when you look at all
of that, what's the singlebiggest risk to multifamily
financing over the next year?

Sharon Karaffa (23:41):
Yeah. For a long time, I thought interest rate
volatility was the biggestproblem. Like, it was just
bouncing around and we we justwanted stability. I think we got
comfortable with that volatilityand with that interest rate
uncertainty. Now I think it'srent growth.
So we talked about vacancy ratesbeing low. We need to see that
rent growth to really help us.We talked about some of the

(24:02):
loans that are coming dueoperating below a one o debt
cover. We need the pop in rentgrowth to kind of climb out of
some of the potential distressthat could be coming our way.

Mark Bonner (24:14):
We got a lot of insiders on on the on the show
right now listening for thisnext one, Sharon. What's the
biggest real opportunity forinvestors who have the stomach
to move right now?

Sharon Karaffa (24:28):
I think there's tremendous opportunity for
longer term hold strategies inreally good markets with strong
fundamentals. So despite thesupply in the Sunbelt markets,
demographics are great there.Long term outlook is strong. So
if you can get comfortable witha little bit of short term

(24:49):
negative leverage for long termsuccess, particularly
investments perhaps in newconstruction assets, I think
there's some opportunity there.

Mark Bonner (24:57):
If you could tell policymakers in Washington one
thing not to screw up this year,what would it be?

Sharon Karaffa (25:06):
It would be GSE reform. So I do, as I mentioned,
I think the risk is low becauseas I said, we've got a lot of
very smart people in the room.But depending on the path to GSE
reform, we could see realinstability. So my hope is and
my ask is to listen to theexperts, to take comments, to
think about multifamily inconjunction to the single family

(25:27):
solution to GSE reform, and doit in a thoughtful way.

Mark Bonner (25:34):
Sharon, I really appreciate you being here. Good
luck to your son tonight in hisbig football game in Northern
Virginia. Thank you very much.

Sharon Karaffa (25:41):
Thank you. Thanks for having me.

Mark Bonner (25:44):
If you missed any part of this episode or want to
dive into our earlierconversations, every show is up
right now on your favoritepodcast app. Just search First
Live. We'll be back next Fridaywith another look at how the
biggest forces in the economyare colliding with commercial
real estate. I'm Mark Bonner.This is First Draft Live.
Have a great weekend, y'all.