Walker & Dunlop, Inc. (WD) Earnings Call Transcript & Summary

Thank you. Good afternoon, everyone, and welcome to another Walker webcast. It is a real joy for me to be joined by Ivy Zelman, Kris Mikkelsen and Aaron Appel, wondering if he can figure out how to connect to a Zoom call to join me today to talk about the markets and what's going on. As everyone who listens to the Walker Webcast knows, we typically bring in outside resources to talk to people and get a sense of what's going on in the world, both in the commercial real estate industry as well as more broadly across the industry and outside. But today is a special one because I've got 3 real great experts with me to talk about what's going on in the markets and what they're seeing and what we should be thinking about in the upcoming months and quarters. So let me start here, Kris and Ivy. A disappointing CPI print yesterday had the equity market selloff had the 10-year jump precipitously.

How much of your view of 2024 changed over the last 24 hours as it relates to everything from transaction volumes distress in the market? Did we have a sea change yesterday with that CPI print? Or is the thesis for 2024 still intact? Ivy, let me start with you.

I'd say that thesis is still intact. I think that the CPI print and the reaction was overdone. Frankly, our real-time surveys support decelerating rent growth. And we've seen across the multifamily space, there's actually new move-in has gone negative for the fourth quarter. The public REITs on average were down 3.4%. And we're seeing deceleration, new move-in rent growth for the single-family rental is now gone slightly negative on the margins flat to down. This is not reflected in CPI. So I think eventually, it shows up. And I think that the Fed is not really looking at real-time data unfortunately. So I don't think it changes our thesis at all.

Let's double-click on that a little bit, Ivy, before I turn to Kris. We've talked a bunch and Peter Linneman on our quarterly call has talked for quite some time about the fact that the Fed isn't looking at the right data and that the CPI component for rent is a misread. And at some point, that catches up, unfortunately, for the January read it red hot. And here we are dealing with a materially different market today than we were yesterday as it relates to the cost of capital. Should investors in commercial real estate take confidence that, that lagging indicator does actually catch up and that whether it's in May or June or August that because it's a look back that all the deflationary pressures that we've seen in rent actually catch up and that it's kind of baked into the numbers going forward?

I think so. I mean we're talking to operators, owners and operators on a monthly basis that are pretty significant in terms of sample sizes, and there are real boots on the ground. And that's, in our mind, a better indication of what rents are doing relative to what the Fed's and using to calculate OER and applying what rents are for single-family renters and then applying that across the stock, it's a very backwards looking, modeling exercise that, frankly, they're not talking to owners and operators like we are. So it's a very different methodology. So yes, I feel confident that the deflation will catch up. It has historically. There's always been a lag. We have a recession analysis that shows the correlations are definitely there, and we just have to be patient and -- the challenge will be patience and recognizing that shelter such a significant portion of CPI at 40% roughly is caused great concern for those who are not as like we are in touch with it every day.

Kris, do you want to dive in on that for a second?

Only to say it feels like we're 1 or 2 third-party data providers away from having the Fed have a little bit of a better indicator about where rents are going versus the lagging look that Ivy mentioned earlier. I don't think the last 2 or 3 days have really changed our outlook for the year at all. I think, if anything, our message declines at the beginning of the year has been pretty consistent, and that's that if there is something that you need to do in terms of a capital transaction over the course of the next 18 months, then we feel like sooner is really kind of better than later. There's a real scarcity in the market right now. We'll talk a little bit more about that going forward. But the consensus was so one-sided as we got a Fed pivot in November, and we got rate relief in December. I think everybody forgot that the pathway to normalcy is -- could be potentially paved with a few speed bumps. And I think what we got yesterday was a speed bump. But I think long term, directionally, we're kind of right where Ivy is and I don't think there's really been any sentiment change, broad sentiment change from our client base in the last 48 hours based on kind of one hot print.

Talk for a moment, Kris, as it relates to the bid-ask spread on multifamily properties and buyers, sellers? Do you think that these higher rates actually flush some of that out, if you will, and that people were sitting there saying, I'm waiting for rates to fall. And therefore, my ask has gone up and the bids have stayed static and therefore, you've got a pretty consistent bid-ask spread that isn't being able to get closed and therefore transaction volumes have been slow and that this actually might spur some activity?

Well, I'll put some numbers to it for the folks listening to just illustrate the size of the bid ask. So in 2023, we actually took the same amount of product to the market as we did in '21 and '22. So extraordinarily active years, took the pretty similar amount of product to market in '23. Only about 45% of the product that we took to market got to the point where it was even awarded to a buyer. Of the 45% that we awarded to buyers, about 85% of that, plus or minus, either closed or is still under agreement. So that kind of illustrates the size of the bid ask that persisted really throughout 2023. In some ways, the rate relief that we got starting really the first week of November, did kind of readjust seller expectations after we were all kind of firmly in this hire for longer cam from really the summer through the end of October. So the bid-ask spread for certain assets has certainly widened out since we got a little bit of rate relief. I think there are a lot of sellers that like to think that we're returning back and reverting to the mean as quickly as possible. I think the reality is, is equity that is being deployed today still recognizes that there is some scarcity in the market, but they want to get a kind of a premium for -- risk premium paid for transacting in an environment that has really a number of question marks around it. So I think the bid ask is narrowing in certain corners of the derisked market, but I think it is still very real in some of the more stressed parts of the market, and we'll talk a little bit about distress later, and that's really where that gap is stubborn and staying [ why ].

Let me -- talking about stress. Let me pull up a slide. B, would you put up the slide that shows the impending wave of debt maturities. And Aaron, I want to come to you for some commentary on this. As you can see on this slide, we've got a significant amount, $930 billion that matures in 2024. I thought, interestingly, on this, you can see how much is with banks, almost $0.5 trillion is with the banks. Life insurance, interestingly on this slide has a pretty consistent share, which shouldn't surprise people who know how much the life insurance companies have played in the commercial space. But then also noticeably at the very top of it that the GSEs only have $28 billion maturing in 2024. So most of this is non-agency debt. And if you think about multifamily being half of the commercial real estate debt outstanding and the agencies being half of that, it's very I think, instructive to see how little agency debt is up for refinancing in 2024. Aaron, my question to you is, is there enough capital out there from banks and CMBS and debt funds and life insurance companies to be able to deal with this wave of refinancings in 2024?

No, there isn't. There's a lot of capital in the marketplace. The problem is that capital all wants certain types of assets and transactions and loan-to-value covenants and debt service coverage ratios and debt yields. And those covenants really don't work for the majority of credit that's outstanding on assets. So there's capital out there, and you can source that capital and you can transact it at levels where there's liquidity. The problem is those transactions typically require larger cash infusions that many sponsors don't have either the capabilities to contribute or the desire to. And when you take a look and step back and look at the office sector, which is a huge component of this capital -- of the wave of maturities coming. There's just not liquidity available for the most part. There are certain groups that are dabbling in the sector and willing to issue some levels of credit. But the larger scale checks that need to get written into that space, and that's been predominantly done through the securitized mortgage markets or on occasion an insurance company or foreign-based bank, those -- that capital is not available for the most part. If it is, it's available on a smaller scale basis. But if you have a $400 million, $500 million, $600 million office maturity on the horizon, you're going to extend with your servicer. There is no avenue or outlet really currently at this time still to be able to transact. And it's putting a lot of pressure on the system and it's devaluing assets even further in that sector than really need to be.

So I mean, I guess the question then would be what happens because one of the interesting things, that number that we just saw of the $930 billion was actually $660 billion and about $300 billion of paper rolled from '23 into '24, which is the reason that there's almost $1 trillion of maturities in '24. It wasn't that -- there wasn't number in '23. '24 had $660 billion, and it's now up over $900 billion. So there's been a lot of pushing forward. Do you see banks continuing and the major lenders continuing to work with clients to extend and pretend? Or do you think that we get to a point where there is some forced resolution where people are forced to either pay off the loan or default, and we start to get some real breakage in the system?

So we had a bank in our office last week. They are top 5 by AUM in the country, and they told us in 2022, they put out $35 billion of credit, real estate-oriented credit, and they lent out of their New York metro region, $3.5 billion. And they told us in 2023, they lent $5.5 billion of credit and the New York metro market, they did about $500 million. And we said, "So effectively, you were in business last year?" And they said, yes. And they said, to make matters worse, "Of the $5.5 billion that we lend into the market, $4.5 billion were on subscription lines to draw downs for equity funds and credit funds." So they basically did about $1 billion of asset-based lending. They said the goal for '24 was to maybe go from $5 billion to $8 billion or $9 billion, and maybe they got up to $800 million in the New York metro market. And that is a top 5 bank in the country with a huge balance sheet. And they said the modus operandum for them was in the event that a deal went sideways or a sponsor couldn't pay us back at maturity, we're not looking to extend loans. We told them they should go sell the asset, and we'll sit with our asset management team and make sure the asset gets sold. We're not looking to take assets back. We're not looking to split notes into AB structures. We're not looking to reposition assets, we just want to sell. And we will sell every asset that comes back to us if the sponsor can't refinance, we will force the sale to happen. And if there's equity left over for them to get great and if there isn't, we'll worry a market seller. And I think we're going to see more of that coming. I was not surprised to hear that. I was a little surprised to see that it took that long to get there, but I think their feeling is we need to clear the decks.

So Ivy, when you hear Aaron talking about that. I mean the kind of the extended pretend. Does the -- are the banks under any pressure right now to start to resolve all of this? Or is this -- do they have enough liquidity to the point where while all of this isn't great for them from an earnings standpoint as it relates to liquidity and another banking crisis? I mean we saw New York Community Bank increase their reserves significantly, cut their dividend just 2 weeks ago when they did their earnings. Do we have another replay, if you will, of SVB and others coming to a theater near you? Or is the banking system from your view right now strong enough to be able to withstand some of the chinks in the armor, if you will, that Aaron was just outlining?

Unfortunately, I'm not a bank analyst, so I can't say it with confidence.

I don't know if you know a ton about it so I asked you.

I just think that what we have right now is a slow bleed with banks facing reality, predominantly the regional banks, small banks. When you look at the percent of CRE, it's really the large banks, I think it's 11% versus the regionals 38%, I think, is the breakdown. So you're going to see some leading for these small banks, which will result in likely a credit crunch. It will affect the consumer at some point. So people ask me, what's your outlook for '24? Are you worried about a recession? I think we're just kind of like today dealing with what Chinese torture. It's going to be slow, and it's going to be regional and it's going to be specific markets that are hurting and the banks are going to be forced to tighten credit in other areas where they land in order to deal with the problems they have in CRE. That's how I think about it. I mean appraisals, as we know, are going to be a lot lower than what they have been when they were originated. So that's going to be pretty painful in any of the CRE categories, including multifamily.

And you said a weakening consumer, does that -- how does that play into your outlook as it relates to either multi or single family and sort of the competitive forces there in the market as it relates to either people buying or continuing to rent?

Well, I think that our world is really focused on the mortgage market. And mortgage credit is right now pretty average in terms of availability. But there will be -- if there is more pressure again, outside of the agencies and banks are in trouble, we're going to see the loans of banks hold on balance sheet will be tighter in credit offering. So that means some consumers won't be able to buy. I think that it goes back to our developers that are dependent on bank financing. Public homebuilders, for example, today account for 50% of the new home market and private builders are going to be challenged that are borrowing from banks to fund their operations, and we'll see more consolidation. So from a consumer perspective, I think you'll just see a tightening, but it's going to be, again, more likely, in my opinion, slower than just sort of a quick cut the cord, kind of like we saw with the great financial crisis. I think this is going to be playing out over time as the banks are finally capitulating on the unfortunate situation they find themselves in those CRE loans that they have that are probably underwater.

Look, this wasn't supposed to happen, like play out the way it is. The regulation that got brought into the marketplace post-GFC, was supposed to protect the banks and transactions were supposed to be over-equitized. When I got into the business, a traditional bank loan was at 80% loan-to-value, that LTV was taken down to 60%, 65%. A lot of these deals are over-equitized. There's a lot more equity in these deals. Mezzanine financing, pre-GFCs used to go up to 95%, 100% of cost. Today's environment or as of a couple of years ago was mezzanine financing went up to 75% to 80% of cost, maybe the low 80s. So there was a lot more equity in these deals, which I think is part of the reason why you're seeing this slow -- the slow-moving cruise ship. But what wasn't planned was the -- really the abrupt shift in the use of office and asset class and then coming out of post-COVID and Kris and I were talking about this the other day, the crime issues in urban infill environments around the country and primarily in the coastal cities. And that is where the bulk of the investment, capital investment is both on the equity as well as credit side and then it's putting even more stress on the system right now.

Yes. B, will you pull up the slide, the NCREIF, appraisal cap rates versus transaction cap rates for a second. And Kris, I want to go to you on this one because Ivy just talked about appraisal values and where appraisals are coming in. And I thought this slide from our investment sales group was a very interesting one. You want to dive in on this as the, if you will, the gap between appraised value and transaction value for '23?

Yes. So we get the question a lot about when we think open-ended fund capital will be back in the market when redemption queues will be either satisfied or rescinded, and we can see that capital moving again. I remember being on this call in December '22, and I made a comment about how long it had been since we had closed an asset to an open-ended core fund, I think since the beginning of the hiking cycle, we're still at 1 multifamily transaction to an open-ended core vehicle since what was that early second quarter 2022. So we -- this data is from NCREIF and for those of you that are watching that aren't as familiar with this, you've got a collection of open-ended funds that comprise the ODCE index. NCREIF tracks those funds. There are about 2,500 multifamily assets that sit inside the funds that comprise the index. All 2,500 of those assets are appraised on a quarterly basis. So when we hear conversations about where various funds are carrying their assets, what marks they're taking really what we're referring to is that light blue line on the bottom of this graph, which is the average of the appraised cap rates on a quarterly basis. That appraised cap rate has been significantly lower than where the private market is actually transacting since the beginning of the hiking cycle. And in the fourth quarter, we were encouraged that the majority of the funds that comprise the index took further write-downs on their multi to try and bring it more in line with where that market is transacting, their ability to onboard new capital obviously becomes much easier when you're buying into a basket of assets that are valued much closer to market. So they took a 5% plus or minus write-down in the fourth quarter, but that took the average appraised cap rate from a 4.03% to 4.29%. So the average appraised cap rate in these ODCE Index core funds are still dramatically below where we're seeing trades actually occur. The head scratching thing about this math and about these numbers is the dark blue line on top. So in one of the assets that are in the funds that comprise the index trades they go and track down the transaction data from that trade and report on the transaction cap rate. we had a pretty robust fourth quarter. I think we announced earnings tomorrow. So I can't talk too much about our activity in numbers. But if you look at the balance of trades that we cleared in the fourth quarter, we saw cap rates somewhere comfortably in that 5% to 5.25% kind of best case range. So we were left scratching our heads when the transaction cap rate data came out for the fourth quarter and actually reported a compression in cap rates by about 30 basis points down to 4.59%. According to NCREIF, the data is across an average cap rate of 40 transactions. I think the folks that are listening to this call that are active market participants find it really hard to look at 40 transactions that closed in the fourth quarter, keeping in mind that a closed transaction in the fourth quarter was likely awarded as we were approaching peak rates with the 10-year cresting above 5% in late October and early November. But this spread, this stubborn spread that we have between the light blue line of the appraisal cap rates and where the private market is trading, is what's keeping those redemption queues filled and that open-ended capital really on the sidelines. Our belief is that it's likely to take the balance of '24 and maybe even into '25 before these carry values get rightsized before capital starts moving again in that institutional space, their LPs are getting capital return to them and they're willing to come back into the funds at revised valuations. But to really have a fully functioning market with liquidity coming from all 4 corners of the market. We need to have this capital back transacting again, but this is the spread that kind of goes behind the issue as to why a lot of them continue to be on the sidelines.

Ivy, I asked B to pull up this next slide, not that one. The multifamily outlook, key takeaways. Next one. Keep going. There you go. You got it. You want to -- I thought one of the interesting lines in here is demand has been strong, but supply has been stronger. Talk about supply and demand, particularly in the Sunbelt as it relates to multi.

Well, as we've talked about the backlog of multifamily being at the highest levels, nearly 1 million units and the highest since the 70s, we're seeing completions increasing at a pretty robust pace and the significant backlog or the Sunbelt is where we see a significant portion of that getting delivered. The reality is, as it's getting delivered though, they are actually leasing up those properties. And while rents, they're choosing occupancy over lease rate, the demand has been fairly robust in enabling them to deliver and provide decent NOI growth. And let's say, it's not what it was, but they're running at 95%, 96% occupancy levels. And I think that as long as the job market continues to be more resilient. I think that our outlook is that while rent growth will slow and be down in the 1% to 2% range in '24 and '25 I think we could still see occupancy holding up. So it's going to be a tough 24%, 25% comparatively to previous years, but I think that it's very contingent on the job market and overall consumer strength remaining resilient. And as we look at the transaction market, a lot of what Kris mentioned, I would just say that what we're hearing about in channel is that there's more sellers sitting on the sidelines because they believe that -- I'm sorry, buyers sitting on the sidelines that they believe that valuations have to come down further. And that's a lot to do with that wall of capital and the refinancings that need to come to fruition. But there are a lot -- there's a significant amount of interest, say, vulture funds are actively aggregating enough capital to get involved, but today, they're just patiently waiting.

So talking about vulture funds, Aaron, I'm going to come to you in a moment on the role of multifamily maturities. But Kris -- B you go to the next slide, please, one forward, which is the 73% of dry powder. There you go. So Kris talked for a moment. Ivy was just talking about vulture funds. This showing the dry powder being allocated towards value add and opportunistic strategies. Why don't you talk to this for a second.

Yes. I mean you and Peter talk a lot about just the amount of dry powder that's been raised. I think the important thing to point out when you look at $250 billion of capital that's kind of on the sidelines waiting to get into the market, it's important to note that 90% of that capital is really geared to generate value-add and opportunistic returns. So in an environment where transitional financing remains expensive as it is when you're pricing over SOFR in the low 5s, the ability for that equity to price an opportunity to a value-add or opportunistic return profile the ability to get them -- to get to a price that any seller is a taker of is extremely challenging. And if I had to point to one thing that has changed in the market in the last 60 days, more than anything else, I would point to that blue line. That's $80 billion of dry powder in the value-add space, largely, really probably all in closed-end fund vehicles. There are a number of sponsors that are in that cohort that have been very discerning with their capital over the course of the last 12 to 18 months. Many of them have businesses that are built on moving that capital. They cannot sit on the sidelines into perpetuity. And the shift that we've seen in the last 60 days, now this is not on every asset, but we have certainly seen it in corners of the market are the groups that have that $80 billion worth of dry powder have said, look, the Fed is pivoted. I'm confident that the development pipeline has now turned off. We will get on the other side of the supply wave I need to start moving my capital again. I'm going to do that in assets that I know I've got a strong level of conviction and I want to own long term. So that same $80 billion of capital that if we had approached them 6 months ago, and asked them to commit to a transaction, the response would have been, for me to commit my value-add capital, I need opportunistic returns to commit amongst all this uncertainty. Today, they're coming to us and saying, "Hey, we're going to be eager pursuers of assets that we have a high level of conviction around." And we've seen pricing improve in that space because a lot of that capital ultimately wants to pursue the same type of assets. So those trades have actually gotten more crowded, and that corner of the market has gotten more expensive over the last 60 days because I go back to Peter and I love that term, the weight of capital. We were talking about it in context of the non-traded REITs that we're raising all that capital from the retail market a few years ago. I think some of these sponsors that have the dry powder that we've been talking about for the last few years are starting to feel the weight to that capital again and they're willing to move it only for assets that they've got a really high level of conviction around. And in a market where there's not a lot of inventory out in the market, that's really kind of move the needle on pricing for us. Again, this is an observation just over the last 60 days.

Aaron, you all do a bunch of construction financing in your group. I'm just curious, Kris was just talking about -- well, Ivy was talking, first of all, about supply and supply outstripping demand right now. Kris was talking about where some of this opportunistic capital is going. Is there a sense now that if someone puts a shovel on the ground, and they're constructing for the next year or 2, they're supplying into an undersupplied market and that it's time to start actually building? Or is that conviction not gotten into the market yet?

I would say that conviction exists in the multifamily space in New York just because it historically has been relatively supply constrained and now you don't have tax abatement programs in place to subsidize property taxes, which make developing multifamily housing pretty much impossible. So I think there's conviction around there. But in most markets, and certainly the markets where everybody has wanted to invest their capital in the multifamily space, which has been the Sunbelt growth markets, there's certainly ample supply that is being delivered this year, next year and probably in the beginning of '26. And the development deals that we're doing in those markets are deals where the equity has been committed to the transaction. There's maturing credit on development sites, there are motivations other than just the standard IRR and equity multiple that people look to when they develop to go develop those assets. And we are doing construction loans in those markets for those assets. There is liquidity. It is not nearly as attractive as it was. But that is primarily where we're doing development in the multi space right now. And I think the same goes for the industrial market. The big box speculative industrial development that we used to see a tremendous amount of liquidity for has thinned out. Most developers do not want to develop that product right now. There's a supply glut in the market. Large corporations have cut back on signing leases. And those that are going vertical on projects have an ulterior motive requirement other than generating a certain type of opportunistic return. That being said, there is certainly no question that there is strong belief in the multi space and even more conviction in my opinion, in the industrial space, that there will be a recovery of -- or development will again make a lot of economic sense, sometime between '25 and '26 to go vertical. Sorry, go ahead.

I was going to say, even with that conviction, Aaron -- like we had this conversation yesterday morning, even with the conviction of delivering into late '25, '26, the belief that the -- outside of these edge cases that Aaron is talking about, the belief that really the start [ticket] has been turned off. The reality is that development economics are as broken today as they've been in a long time. And I would say that they're broken to the tune of just probably at a minimum 100 basis points worth of development return that you need to generate above what a market deal looks like today before you get that capitalized. So I think the middle of the fairway type development opportunity today when you take an honest set of underwriting to it, is probably somewhere in the mid-5s. This is a multifamily centric conversation and capital really needs to see something closer to the mid-6s to get on board. So what is it going to take to get from a mid-5 to mid-6? You need 20% cost relief or you need 17% or 18% NOI improvement. And with the rent outlook that Ivy outlined and as we work our way through this delivery wave, it's hard to look at top line growth with the expense pressure that we have right now, particularly around taxes and insurance. It's really hard to see the NOI improvement closing that gap. And on the construction cost side, so much of this cost is built in labor and the fact that our economy has been as resilient as it's been and employment is as full as it is, it's hard to look at broad brush pullbacks in costs, certainly on the margins here and there, but we need at a minimum, probably a 20% pullback in overall cost, that's far and soft to really kind of justify development yields again. So it's a real challenge.

Yes, or growth, one or the other. So those 2 go hand-in-hand.

But we just financed yesterday a $90 million construction loan on an active seniors development and it had a $60-some-odd million first on it from a life insurance company.

Don't say the spread. Don't say the spread.

It's important data.

No, I'm saying it's painful for everyone once they hear it. It's expensive paper.

It was an 8% first and a 14.5% mezz to get it up to 80% construction at 80% construction loan. And I asked the banker, what's the projected yield on cost on this, and he said 6%. I don't know what kind of rents you got to charge in an active seniors community to be able to get to a 6% yield when your cost of financing is north of 10%. And so look, the developer clearly has conviction on this product, and it is at Main & Main in the market that it's in. But with that said, you hear about that cost of capital to get this thing built over the next 2 to 3 years. And you certainly hope that we get some real rent growth back into the market between now and when it delivers.

But to Aaron's point, on that particular project, which mid-50s percent -- mid-50s loan-to-cost construction leverage at SOFR plus low 500s. The reason why they are moving forward with that project is they've been in that deal for over 2 years. They own the land and had a significant amount of pursuit outlay there. They had some leverage on the land to do some of the horizontal infrastructure development. So those are some of those edge cases like Aaron talked about, where you've got a sponsor that's so deep into this project that they've got to really kind of build themselves out of that hole irrespective of the cost of the capital because the alternative is to essentially get nothing exactly. And so -- but I think those are edge cases. And logically, the longer we go through this the fewer of those opportunities are going to exist because they will have been worked through. But look, even in 2009, starts didn't go to 0, right?

So Ivy, I just talked about an active seniors development in the multi space. Let's talk about single-family for a moment and some of Zelman's outlook as it relates to single because right now, you're focused in on an aging and declining -- well, lower population growth, an aging population. And one of the interesting things in your last research report that I read was also a far less mobile populist. Talk for a moment about that because of all the lots of great stuff in your research, and I love it. But one of the things that jumped out at me was you sit there and think today, with job growth across the country, a reasonably robust economy that you would have people traveling everywhere to go find the jobs and your research says, no, that's not the case.

Right. So we know that with today, those homeowners that have a mortgage are disincentivized to move. So the low inventory levels that we see in single-family are attributed to that. But really, on top of that, and more of a long-term secular headwind, has been aging population. So 20 to 24-year-olds, 50% in a given year -- 50% of them move in a given year. They're moving. So the older you are, the less you move. So when you're my age and my cohort, less than 10% of people move. So as we have the boomers and X-ers aging, and assumingly, they're not moving as much, that's having a negative impact on turnover and, therefore, mobility. And I think that's going to continue. And we're going to, probably, at some point, deal with unfortunate vacancies that occur given a rise in death rates, and then we'll have inventory start coming back and being accumulated in the market. But right now, people are sitting and living longer, and we don't anticipate that really to occur until after post 2030. But you're going to see from 2024 through the end of this decade, you're going to start to see incremental, call it, 50,000, 100,000-unit per year incremental vacancies coming from those people that unfortunately pass.

So there's also a slide in one of your most recent research reports that shows the total supply of single-family housing in both built-for-sale as well as built-for-rent. And one of the things that I thought was just amazing about those numbers is that, that had peaked in the 3 million-plus number post-GFC and has steadily come down to the point where, right now, it's just at about 1.5 million. If you take SFR, BFR as well as single-family into that number, a dramatically smaller new supply of single-family housing coming into the market today, do you think that continues to come down? Or you think we stabilize at this sort of 1.5 million level?

I think that we're going to see modest growth. I think the biggest challenge is acquiring land. If you talk to builders today, that not only is it harder to get land because of no growth moratoriums and difficulty from the NIMBYs out there, but you also have an inability to pencil the returns that justify buying the land because land has not taken a break. It's continued to inflate all throughout COVID. So I think that we have homebuilders today that are reporting that community count growth for them is going to slow relative to historical levels to the low mid-single digits, where, historically, they might have been growing community count 10% to 12%, 15%. And that -- so part of the slowing in starts is really about the acquiring land and getting that sort of replenishment of what they've absorbed. They just can't do it fast enough.

And your outlook on SFR, BFR, it's obviously been a pretty flat product for quite some time, particularly as we saw rates rise and the cost of mortgages go up precipitously. Are we at an inflection point here where we're getting the mortgage rates kind of settling in and the buy versus rent decision is sort of -- there was a slide that you have in there that has kind of a toss-up between buying a home and renting a home, of what your actual out-of-pocket expense is on a monthly basis. Are we at an inflection point here? Or do you think BFR, SFR continues to get a lot of investment dollars and continue to be a hot asset class?

On a relative basis, I still think it's a relative hot asset class, I think, with respect to BFR, more so than SFR. I think what you're seeing today in BFR is capital has come back. But keep in mind that part of the BFR story is that, as you pointed out, there's not as much new starts coming to market. Our housing stock is approaching 50 years old across the nation, obviously older when you look in the northeast and anything east of the Mississippi. But what people want are new homes. But it's actually more affordable to rent for a single-family home than it is for owning a home by 9%, roughly, on average. So given the increase in rates, because we don't like to look at, multi-comparatively, rents versus ownership to single-family, but now we have the ability to look at SFR versus for sale. So it's more affordable to rent than it is to own today because of the surge in rates. So I think that there's more interest in that space from institutions today and real estate funds that are looking to allocate more capital to support new opportunities in new communities and build-for-rent. I hear a lot. Like if you know of any builders that need capital and they're looking for equity financing, let us know. We want to invest. So we don't hear about that in the new home market as much.

Aaron, you just heard Ivy talking about BFR, SFR as sort of a -- not a real tectonic shift, but it's a new product to the market over the last decade and has grown dramatically. You mentioned previously office and the real shift that's going on in some of our major urban centers. Beyond office to multi-conversion, what are you seeing smart money do these days as it relates to investing in the urban core? You're in New York, you see all the smart money. What's the opportunity play in somewhere like New York or Boston or San Francisco, for that matter, right now? I mean, don't say nothing.

Yes, no, listen, if I look back and -- in a lot of these coastal markets, where the bulk of foreign institutional capital wanted to be, if you look back over the last decade and you take out certain isolated periods of time, a very limited period of time, if you were able to get out in the urban infill vertical industrial boom or a select for-sale housing project in a really strong residential location, the capital -- the money has been made by groups providing mezzanine capital and preferred equity capital into existing assets and development deals. All of the returns have been made in those positions. The 15 to 20 IRRs, that money has been made in those positions. So we just see a plethora of money sitting there looking to inject capital into those positions. Equity groups looking to do the same thing as what the credit groups have been doing for years. Credit groups have continued to accumulate and amass more capital. We're not seeing the equity do much. If I could say what I thought a smart equity event would be, I would say, if you can buy new-built multi or relatively new-built industrial, and you can pay 25% to 30% below replacement cost and you have staying power and could sit there for 3 to 4 years and let the supply cycle through on the upswing, you will do very, very, very well. Outside of that, it's very difficult to see where there is a trade right now. Some of this has been -- certainly in the New York -- and let's take New York and Los Angeles. In the multifamily market, a lot of this has been -- the problems that exist and the reason why Signature Bank went under and New York Community banks on the ropes, that has to do with the political climate and the change in rent laws and the prohibition to allow landlords to increase rent or earn a return on capital invested. And it's devalued the assets, and it's destroyed these banks' balance sheets, and it's made investing in these markets very, very challenging. And that has a reverberating effect throughout the rest of the market. So it's been a tough climate.

Kris, Aaron, a moment ago, just mentioned buying something below replacement cost. I was at an NMHC meeting with a client, and I said, "Are you active?" And the client said to me, "Well, we're not really active right now because we don't like negative leverage on our buys." And I kind of ran through a scenario saying, well, hang on a second. Let's just let's play around for 2 seconds and say the Fed starts to cut and cuts precipitously. And let's just say that the 10-year follows the cuts, okay? So the 10-year comes down another 25 basis points, and this was when the 10-year was at 4% rather than at 4.25%. But I said, "Okay. And then you think cap rates are going to hold as rates start to come down? You're going to get cap rate compression, and you're still going to be in that negative leverage situation. So like what's the scenario that also can get you into a positive leverage scenario where you can actually go out and start to be aggressive?" And this client looked at me and said, "That's probably a good point. Maybe we ought to start looking at it as kind of like an IRR or a replacement cost analysis." Am I wrong asking that question? Or is the paradigm need to shift from I don't like negative leverage to exactly what Aaron just talked about, about looking at as far as replacement cost, and then holding it through this cycle?

I think I don't want any negative leverage. It was a convenient way for just -- to just say that I'm out of the market, and I'm watching things evolve. And that was kind of the response from a lot of that capital that remained on the sidelines throughout the year last year. I think there is absolutely a thesis, and some of the smartest capital in the market today is very keen on basis. And in particular, as Aaron was talking about those urban opportunities, we spent the last decade in an expansionary cycle, defending premiums to replacement cost as we were selling assets. Everything that we have in the pipeline today, for all intents and purposes, is trading at a discount to replacement cost. It's just a conversation about the order of magnitude. We look at these near urban and urban assets that oftentimes are trading 25%, 30%, in some instances, as much as 40% below replacement cost, and we look at that as really kind of justification for an even prolonged period of development being out of favor. Because as those trades print, it makes it that much more difficult to capitalize the next new project. So we believe that the runway of no supply or no new supply that those assets will have to compete with is longer there, a massive discount to replacement cost. The challenge is, like Aaron said, a lot of these assets, operationally, have been under a lot of stress, so the going-in yield is relatively unattractive. These are sub-5, mid-4 type going-in yields. But if you can take a 7- to 10-year view and you look at what rents you can project on the recovery curve, when you get on the other side of the delivery wave, rents will not go back to growing at 1.5%, 2% to 3%. The capital that has conviction in this thesis is assuming that rents rise mid- to upper single digits in that year 3 and 4, and that's how they're generating those value-add returns that we talked about earlier in the call. And I think that, that's a very sound thesis. And I think that the basis protection there is really kind of underscores the rationale.

So this slide, Kris, that I'm pulling up, your team as have I have not in today's market as it relates to multi. Just talk this through for a second about those that you're all seeing that are on the hat side and those that are on the have-not.

Yes. It's -- we have these conversations and markets tend to get broad brushed, and you want to have these kind of one-size-fits-all takeaways from the market. I think the best way to just quickly summarize where we are is we're continuing to reprice risk all across the spectrum. And on the left-hand side of this have-to-have not continuum, you've got good locations, differentiated product, favorable supply-and-demand metrics and the surroundings. You've got good, clean operating fundamentals. What we're seeing in those trades are depths in the bid sheet, willingness to absorb 18 to 24 months' worth of negative leverage. We've got going-in yields in the upper 4s to low 5% range. That's the crowded trade. As I've talked about earlier, the capital that's decided to move again are pursuing the assets that are on the left-hand side of this have-to-have not continuum, the more commodity real estate that doesn't really have any kind of compelling near-term growth story, but it's still good real estate, falls into the middle of this continuum. And that we feel like values for those assets will kind of move in lockstep with the all-in cost of financing because the reserve bid for those deals is the neutral-leverage day 1 bid. So value their 40 basis points ago and the 10-year U.S. treasury looked better than where it looks like today as the movement in rates has affected the all-in cost of financing. Now on the right-hand side -- and we haven't talked a lot about distress in the multi space. We didn't go down the route of talking about all the CLO product that's maturing, $55 billion worth of maturities between now and kind of midyear next year. But you have some really operationally broken assets that have been extraordinarily starved for capital. Some of those assets have been starved for capital over the last 24 months. Some of them have been starved for capital over the last decade. And there's real distress there. These are assets that the sponsors aren't really funding any sort of CapEx, really a number of OpEx needs that aren't being addressed. You've seen occupancy deterioration. You've got 70s, 80s vintage tertiary market-type stuff that's operationally broken, where, we're having conversations about when we value these assets, after we put in all the capital and all the operational expertise to restabilize these assets, what is the appropriate stabilized yield? Is it 6.5%? Is it 7%? In some instances, it might be into the mid-7s. So where values are and what kind of liquidity you're going to have for your asset really relies on the resiliency of the cash flows, the durability of the cash flows that your asset has been able to demonstrate, that dictates where you fall in the spectrum and really where you fall in the spectrum is ultimately going to dictate value.

Ivy, Kris was just talking about yields. He also talked about rent growth a number of years out here that would be projected at 5%, 6%, 7%.

Come on, Ivy.

I was going to say, "What Kool-Aid are you drinking?"

To be clear, I said the investors that have conviction around that thesis, that's what they're assuming. So I'm not representing that as Ivy Zelman.

I mean just look at historic rent rates. And as one operator I like to quote said to me once, "We used to do cartwheels if we can get 2% to 4% rent growth." And so historically, we've never seen mid- to high single digits, with the exception of the COVID period, where we actually hit double-digit rent growth. So I'm not sure what assumptions they're using. Now of course, I'm talking national. So the markets they're looking in, maybe they assumed like up to mid-single. I'm not saying that's out of the question, but not on a national rent overall basis. But anyway, Willy, continue your question, sorry.

My question was going to be on just affordability. Because one of the big thesis inside of your research these days is stretched affordability as the consumer is buying it harder and harder, and there's a lack of supply, the cost of the inventory is going up. And we've got -- Aaron talked a moment ago about rent control and a higher regulatory burden, particularly in some of these coastal states. Talk for a moment about affordability and the regulatory overlay. And if you will, either the opportunity or the threat from a housing sort of standpoint, large, single-family BFR, multifamily, as it relates to where there is the opportunity to get outsized returns in a market that seems to be quite regulated in a lot of different places?

Yes. I think we all saw the Dems just passed a -- put a bill out that is trying to get the hedge funds no longer buy single-family rental homes, where they won't be able to. I don't think they'll get it. I think it's dead on arrival, but they just issued that bill. But what affordability looks like for the existing market, it's 30% above trend line. It's stretched, 30% stretched. And interestingly, the transactions in 2023 for existing home sales was at 4 million on average. That was one of the lowest levels and pretty much recessionary levels, but we had 6% home price inflation. It just doesn't go together, so it made it even less affordable. On the new home side, we had about 1% inflation. And part of that is, net of incentives, the builders are able to buy mortgage rates down and do a lot of things that offer consumers value, but we're 10% to 15% stretched above historic affordability levels. So what we've seen is a great American wealth transfer that's helping young adults, millennials and Generation Zers get money from their parents and their grandparents, and we've seen cash purchases at record levels. Going back historically, I think, from any period, that's helping to offset some of the affordability challenges. Will that continue? I think that we've seen the stock market at record levels. We've got a significant amount of wealth that was created to real estate equity appreciation. So I think that, today, that affordability measure that we've used, Willy, historically, to say we're a little bit nervous right now. We're going to see housing might actually pull back. We could even see home prices come under pressure. We're not expecting that right now because we're looking at that stretched affordability. Enough people are offsetting that, especially on the new home market, where there are opportunities for builders to create value with incentives. So still looking for growth in home prices, but at a decelerated level despite stretched affordability in the new home market. And the same thing in resale, just not enough inventory, not enough choices for the consumer.

Aaron, when we started my first question, you at the top was -- is there enough capital out there to meet the wave of maturities coming up? And your response was no. I think one of the capital sources that was somewhat of a surprise in '23 was CMBS. CMBS volumes went up by 16% to over $60 billion in 2023. And while it's 16% off of a very low base, it's $60 billion that, quite honestly, a lot of people didn't think would be back on the market. Is CMBS -- not a savior of the market, but will CMBS be active in 2024 given the secondary market and the ability to sell off the bonds? Or should we not expect a whole lot more out of CMBS in '24?

Coming out of the GFC, CMBS, I think, peaked somewhere around 60% or 70% of the volume, roughly. I would expect to see in the coming years that CMBS exceed volumes pre-GFC. I think it's going to become a huge, huge factor in the market because I just don't see the commercial banking sector sort of coming back out of this anywhere as impactful and important in the marketplace. People talk about the market can't rally, unless financials rally. And you look at banks and how poorly they've done. But the truth of the matter is, the private equity firm's the new financials in the market. And the world has changed. And Apollo and Blackstone and KKR, if you look at their stock prices and you look at what's happened to their stocks and how they've grown, they're the new financials. They're the ones providing substantial liquidity into the market. They all control billions of dollars of insurance company capital annually that's being contributed outside of the traditional life insurance company investors. They have $10-plus billion credit funds that are lending capital into the commercial real estate markets. They're making their impact in a huge way in corporate lending as well now, taking substantial market share from banks. You're just not going to see banks in the same place. And candidly, with the distress in the regional banking sector, the only exit strategy for small balance loans is going to be small balance CMBS. So small retail strip centers, smaller office buildings, little industrial parks, the exit is going to be CMBS for those loans. So we expect the majority of those loans to wind up moving from bank balance sheets to the securitized markets. And then that will open an avenue for private capital to continue to expand in the construction space. Smaller developments have gotten done by regional banks. Those days are over. The cost to build those projects will increase because it will be privatized capital. But we're seeing it day in and day out, and we don't think those trends are going to change.

So I was going to ask the 3 of you, as a last question, give me a plug on where the 10-year will be at the end of the year. If you want to answer that one, go ahead. If you've got another prognostication that you've got more conviction in like the Kansas City Chiefs repeating for a third year or something in that nature, feel free to throw that out there. But Ivy, let me go to you. You want to make a projection for the end of the year that you're ready to stick by?

Well, I thought you're going to ask us, where would we personally be investing right now? Because that was your question on our last several sessions.

That's very much so. Why don't you go with that and then your projection. Where would you be investing right now?

Well, I have the privilege of knowing a lot about how the public homebuilders think about owning land, and they really don't want to own land on balance sheet. And I think being land bankers today is a very attractive way to tie up capital and get a very strong double-digit return because the builders really want to [ choose up ] their returns, but not by not owning land. And I think that's an opportunity, assuming we don't have any massive cyclical downturn. But as it relates to the 10-year, I might be a little bit in a different camp than you guys because I -- studying historical levels of yields, we have a long end that's sort of reflecting already what the short end should be doing. So if you think about, let's say, the Fed funds rate gets back to 2%, and they're bringing us into a soft landing, why would the 10-year go much lower? I mean that's where I struggle. So when people are saying they're so excited the Fed's going to ease, it's going to make affordability better, I'm like, the only thing that's really going to make affordability better for the, at least, for-sale market are the wide spreads that need to compress that the mortgage investors are actually still requiring to buy those securities. And they -- if they compress, we'll see mortgage rates come down. But I don't think the 10-year is going to really do much, frankly. And if it did, it would be probably not for good reasons. It wouldn't be good for the economy.

Kris, what's your investment spotlight? And what's your projection for the 10-year?

I'm in Ivy's camp on the long end of the curve. The point that I would make, as we think about where rates are headed and where it will and will not provide relief, I mean, we could get 3% or 4% cuts from the Fed, and floating rate debt is still in the upper 6s to 7%. But what we will see is we'll see some of this cash that's in money markets move into treasuries on the shorter end of the curve. And you'll have those neutral-leverage day 1 bidders that I referenced earlier in the middle of that have-to-have not continuum able to price 5-year debt over a 5-year treasury, that should be trading somewhere between 60 to 75 basis points inside the 10-year. The ability for that capital to get neutral leverage over a 3.25, 5-year with all-in debt in the upper 4s to 5% enables that capital to go pursue those assets in the low 5s, we can transact pretty efficiently there. The difference between transacting in the low 5s up to 6% today is obviously super impactful. So when I think about rate relief, I'm thinking about it on the shorter end of the curve. Because I tend to agree with Ivy. I think we can have the long end of the curve that we have. I'm going to take this call off from telling people where I would invest, and I'm going to take that time to remind Aaron that the first time we had this call, he said Bitcoin. And Bitcoin has been in the news a bunch recently. He looks prescient with his call right up until the point where you go back to the chart, and you see that when he made that call on November 11, Bitcoin was at $62,000. So Appel, I love you, but I got to keep you honest. Over to you.

Just a moment in time, though. There you go.

You've got diamond hands, baby. You got diamond hands.

So I agree with everything Ivy said. I would also say, Willy, you sent a note around last night that [ Linneman ] thinks CPI was maybe 1.1% or 1.5% and not 3% And I don't disagree with him. I think that the retail inflation has pretty much subsided, but we have severe monetary inflation. We're adding 10% to the domestic monetary supply every year, and that trend is not going to stop. So owning land, any sort of asset that you can own that is supply constrained, should technically inflate certain commodities. It haven't because the production is ramped up. So if you can find things that people need that won't inflate or want that has a scarcity of supply, then you should be able to protect your capital, and that's where I would invest money in. And at some point, that will happen with commercial real estate again. I'm less sensitive to where rates are. I actually think that's somewhat irrelevant, and I'm getting sick of the conversation. I think it's supply-demand driven. You can get out of the rate issue. If rents grow, we have too much supply in office, we have too much supply in multifamily, we have too much supply in industrial, we have too much supply in life science. And that's creating problems in the marketplace right now, more so than interest rates, which were just a Band-Aid on something that became a bigger issue. So when you rightsize supply, the inflation protection will come back again. I think rates become somewhat immaterial at that time. But I expect treasuries to stay somewhere in the trading range they've been here for the last 12 months.

Aaron, Ivy, Kris, thank you all for both joining me today and for all you do at W&D. Thanks, everyone, for joining us today. Great conversation. Have a great one. We'll see you next week.

Thanks, guys.

Thanks, Willy. Thanks, Ivy. Thanks, Aaron.

Thanks.

Bye.