Norris Bruce
Mar 01, 2019

Rent Control and the Apartment Market With Kris German #632


Bruce Norris is joined this week by Kris German. He is Vice President of investments in the LA and San Bernardino counties. He specializes in selling multi-family residential properties since joining RE/MAX Commercial in 2007. He constantly ranks among the top three commercial agents within the RE/MAX commercial national division over the last twelve years. He has been awarded every award RE/MAX has to offer. This includes the RE/MAX Hall of Fame Award, Chairman’s Club Award, Lifetime Achievement Award, and most notably the Prestigious Diamond Club Award in 2015, 2016, and 2017.

Episode Highlights

  • How long has he been involved in marketing apartments?
  • How did the value of apartments change during the 2008-2010 housing crash?
  • How aggressive was lending for apartments in 2005-2007?
  • From the bottom of the market, how far have rents gone up percentage-wise?
  • What most changes the value of apartments?
  • Does he see much new inventory being built?
  • What is happening with rent control currently?

Episode Notes

The Norris Group is usually not attached to apartments, but because Kris allowed Bruce to speak at his event and they have investors with some investments in apartments, he wanted to get his take. 2007 was an interesting year to get involved in apartments. Kris always joked that he got his license on Monday, and Wednesday they decided the market should collapse. He was new to real estate in 2007 when the mortgage crisis took place. Although apartments did not have a mortgage crisis, apartment property values began to tumble. From 2007 to 2010, sellers were chasing buyers in terms of pricing.

If you look back at areas like the San Gabriel Valley, properties that ten times grossed today would have been 6 ½ at the time. Buyers were standoffish and complaining it was not good enough of a deal. Compared to today when things are 16 times gross in some of those same communities, we see how prices have escalated.

It is an interesting journey Kris has taken over a twelve-year period. When housing was booming in 2005 and 2006, Bruce wondered if this caused a lot of vacancies in apartments. Although he came into it in 2007, he still had to look at what transpired. Bruce asked if so many people got to own a house where apartments had suffered. Kris said no and that when he was new to the business, it would depend on the geographical area where you would work full comps from the previous five years so you could know the data. It really didn’t have an impact on vacancy since rents were nowhere near what they are today. However, it still had gains seen but did not have the impact one would have thought. You would think if all these people were buying homes, they would be vacating apartments.

This was not the case in the Burbanks and South Pasadenas of the world, which was a different tenant base. However, when talking more middle-of-the-road, blue-collar areas, even the individuals with ninja loans still had no choice but to be tenants. Bruce asked if there was aggressive financing for apartment ownership during that time in the 2004-2006 cycle. He wondered if they had any problem with a glut of foreclosures in the apartment world at all. Kris said no. When he speaks about apartments, he means commercial, five-plus unit properties. Going back to the San Gabriel Valley, this was the only market he worked in back in 2007 and has grown since then.

Two building he remembers were in El Monte and Whittier were real foreclosures. There were other individuals who had fallen behind on payments, and there were notices of default, but you did not have a big calamity when it came to foreclosures in the multifamily world. When you look at the data now, Riverside and San Bernardino counties are their own animals with their own issues and troubles. Going back to the San Gabriel Valley and other strong markets, the creative financing only got as far as interest-only loans. You could have interest-only payments on commercial loans. It is not as common now, but there are some interest-only options out there.

However, it seems it has been more aggressive this time around. Interest rates were as low as 3 ¼ in 2016. Typically, commercial loans will be fived 3-5 years, at most 7, and if you try to fix the commercial loan for an apartment building longer than that the money will cost you a higher interest rate. Most investors will go with the 3-5 year plan. If you got a loan in 2016 and it was 3 ¼, you would need to think about the building you bought. Even if it cash-flowed well for you, what would happen when it comes time to readjust to the 5 ½-6 range. This changes the cash-flow substantially. It will be interesting to see what happens with these individuals since they also got in with as little as 25% down.

They may have more trouble than an investor who bought last year at the top of the market. In order for the property to debt service the ratio, many times buyers are putting as much as 50% down. They have a lot of equity in the building and are able to brace themselves for any fluctuations better than those who got in with a low-down payment. Not only did they get in at 3 ¼ rate, but banks like Chase did stated income loans. You did not need to provide any financial note taxes. You go to bill out a stated cashflow sheet for yourself. As long as your credit was good, they would receive a loan. These loans still exist today.

The apartment world got more aggressive than the residential this time except for when it came to big down payments. The big down payment was only a function of the income relative to the price. If you had a scenario where DCR coverage that the bank was looking for could be met, they still would allow them the 25% down on multifamily properties. At today’s rate, there is one local bank who says the rate is 4% if the loan amount is more than $1 million. Usually the average for the area is about 4 ½%.

Bruce asked Kris if people told him things would get worse the year he came in or if it blindsided the apartment world. Kris said it was the latter. Twelve years ago, brokers commented that properties were staying on the market longer and they had to put more muscle behind the listings to get them sold. In El Monte, he had a property in escrow when the stock market fell. He got a call the next day from the buyer saying they were cancelling escrow. When he asked them why, they pointed at the stock market and said they thought there was bad financial news coming and got out when they could. Kris said a big reason the apartment market fell was ecology. At that time, people were talking about there being bread lines and other things. The psychology also took the market.

Interestingly enough, as American-based investors were exiting the market since they perceived too much risk in it, there came a Chinese wave of money. This was a saving grace for multifamily. Their expectations on rate of return was not as picky as an American-based investor. In the markets where Kris worked, they created the bottom when they stepped in with their money. Had it not been for them, their values would have continued to fall because the local investors were saying their deal needed to be 8 or 9 times gross. The foreign money came in and said it needed to be 10-10 ½ times gross. In 2013, 2014, and going into 2015, they had to be 60-70% of the buyer pool like in the San Gabriel Valley.

Bruce asked if hedge funds played a role in buying apartments. Kris said they are not local here. If you are looking at 5-50 units and mom and pop companies, Kris said he imagined they are looking at the institutional type things. Bruce asked what caused the Chinese to invest. Bruce said when he looks at foreign investments, they usually want it at a peak of the market. In the past, they were notoriously buying at the wrong part of the cycle. This time, that did not happen. Bruce wondered how this money was anxious to have a place to park and the apartments happened to be ready to accept the money.

Bruce wondered what was going on that allowed this transformation to happen at a good time. Kris said the owner of RE/MAX owned six or seven offices. A good portion of the agents, including the owner, who work in the offices in Arcadia and other places are Chines. In 2015, Kris joined with him to oversee the multifamily segment. In the Chinese homeland, they did not trust themselves to put the money into Chinese investments, so they came to America. He was not sure why they specifically invested in multifamily, but at the same time they started investing in this they started building mega mansions along the 210 corridors in places like Arcadia. A lot of these are sitting vacant today because that money has gone back to China. There’s new rules that you can only bring in so much money now, so it is not as much of a buying power.

During 2014-2016 when they were around 60-70%, today they may be 30-40%. The money has also shifted the other way to be primarily American-based. They perceive that keeping their money in China is risky. They brought it here thinking it was safer.

Bruce asked how far rents have gone up from the bottom to now of the market in the inventory with which he works. Kris said in some areas, it has nearly doubled. He and his wife own an apartment, and speaking with their own units there were people being pushed out further and further from downtown Los Angeles. Gentrification is taking place in different
areas and the rents have nearly doubled. Most areas have even seen an average of 50%.

Bruce asked about the cap rate journey from the bottom to now. Kris said at the bottom, the best you saw was a 7 cap. Individuals who are single-family investors may be used to higher cap rates, but a 7 cap was seen a great deal. Today, we are at 4 cap, and that is a significant in-value. We seem to be hovering there. Even as we move into March, we still seem to be hovering between a 4 and a 4 ½ cap. If interest rates are 4 ½ or higher and the cap rate is 4 ½ or less, you are losing money on what was borrowed. The question is how much further we have to go to push the buyers in terms of pricing. This is something the market is facing.

Bruce said what is interesting is twice a year Bruce speaks in front of the Apartment Owners Association. About a year ago they had a crowd that was enormous, about 75-100 extra people lining the walls standing. Bruce thought they were either really scared or really excited. There was a little laughter, and somebody stood up and said they wanted to know if apartments were in bubble territory as far as their valuation. Bruce said although he is not an apartment guy, he could ask one question. He asked how many of them would buy their own apartment building at its current value. There was rolling laughter. This was the definition of a bubble.

Bruce asked Kris if he is concerned about the valuation that exists right now. He wondered what the owner’s expectation is right now and if they expect the value to hold or still increase. Kris said going back two years ago, you definitely had investors who were more optimistic as opposed to pessimistic. Kris thinks now it is about 50/50. They talk to a lot of apartment owners on a weekly basis, and it is more split. Some are saying time is on their side as a buyer and they will wait. Prices are supply and demand; so for the more people who wait, it becomes a self-fulfilling prophecy for the values to fall.

At the same time, Kris was closing escrow on a building in Ontario at the highest price per unit ever sold for a multifamily building in this city. You still have that going on at the same time, but that is a rarity. More and more you have buyers who are skeptic. Bruce asked what percentage of owners are permanent owners until the day they die. Kris was not sure how many when it came to permanent; but based on the number of calls they get and clients they meet on a day-to-day basis, those in a holding pattern is around 60-65%. The rest are open to an exchange or in the process of doing exchanges or exiting the market all together. With the building in Ontario, the seller is cashing in their chips and do not want to wait for another cycle. It was a big decision for them since in this case their family built the apartment building back in the 1970s.

Bruce asked if they had no 1031 exchange property to buy, so they cashed it out. However, Kris said they are carrying out private financing. Bruce wondered this has to be a big tax advantage. You figure the tax they would pay under the basis of what they are selling today would be huge. Kris’s first question to an owner who is older and retired is if they do not need all the equity today and do not know what to do with it, why not carry the note? In this case, it is a five-year term, meaning they have a monthly income for the next five years based upon the loan amount. They deferred the majority of the capital gains, and they could also extend the note. At the end of five years, the buyer and seller could come back together to see if they mutually like the partnership and want to continue.

Bruce asked how long people generally own their properties. He wondered if they expect it to be short-term or if most of these are long-term thinking buyers. Kris said most of them go into the scenario thinking it is a stepping stone for them to continue to build. 40 years later, you are sitting down with the investor, and they don’t know why the stepping stone never grew. This is quite common. You may be a younger person and up to doing the exchange, but now you see it as you are past your prime. Time got away from them and life happened, and they became more complacent. This is why if he catches the people early enough and tells them what they have, he reminds them the difference between them and an individual who owns 50 units. It is a matter of repositioning your equity.

He had clients who owned everything from a 5-unit to one who owned hundreds of units. The latter started with two nickels in his pocket. He utilized the market the last 30 years and continued to roll up. He is the 300-pound gorilla in the room now. He also worked with people in between. When he quizzed them, he saw that these people were not geniuses or came from money. Their story is very similar to the person sitting on one single-family, maybe five, and they perceived to make it leap (moving into the units or expanding them) is more complicated and cumbersome than it really is.

If you would like to contact Kris, you can visit his website at www.theapartmentdealer.com. You can also reach him through Facebook at The Apartment Dealer or by email at kris@theapartmentdealer.com.

The Norris Group originates and services loans in California and Florida under California DRE License 01219911, Florida Mortgage Lender License 1577, and NMLS License 1623669.  For more information on hard money lending, go www.thenorrisgroup.com and click the Hard Money tab.

More on Hard Money Loans

Information on Note Investing

Real Estate Investor Education & Resources

Hard Money Loans
Real Estate Radio Show and Podcast
Real Estate News Blog
Real Estate Investor Training

The Norris Group

Phone: (951) 780-5856

Fax: (951) 780-9827

1845 Chicago Avenue, Ste C,
Riverside, CA 92507

California Hard Money Lending
The Norris Group Real Estate Radio Show and Podcast
Real Estate Investor News
Real Estate Investor Education

The Norris Group

Phone: (951) 780-5856

Fax: (951) 780-9827

© 2018 The Norris Group. All rights reserved. Privacy Policy.

NMLS ID 1623669 (See the NMLS consumer access page). Cal DRE 01219911. Florida Mortgage Lender MLD1577

 

WHAT PEOPLE SAY

The Norris Group 1845 Chicago Avenue, Ste C, Riverside, CA 92507 Tel: (951) 780-5856 Fax: (951) 780-9827 E: info@thenorrisgroup.com
©2017 The Norris Group. All rights reserved.

The Norris Group Fax NumberFax: (951) 780-9827

The Norris Group California OfficeLocation: 1845 Chicago Avenue, Ste. C Riverside, CA 92507

The Norris Group websitewww.thenorrisgroup.com

HELPFUL LINKS

CONTACT US

members of