Acquisitions of U.S. student housing soared in 2016. Lending activity was equally dynamic. New buyers were attracted to the space. Student housing remained resilient and healthy.
Investment Volume Rises to $10 Billion
The industry’s staggering performance is clear in the total transaction volume of $9.8 billion, which is $4.2 billion more than 2015’s volume and more than three times the 2014 total, based on statistics compiled by CBRE’s National Student Housing Group (the largest intermediary of student housing in the U.S.). 2016 marked the sixth consecutive year of all-time record transaction dollar volume.
Approximately $3.3 billion of the $9.8 billion transacted in 2016 is attributed to the large Campus Crest and University House portfolio acquisitions. However, even when excluding these two capital events, transaction volume in 2016 was still substantially larger than 2015 at +16%.
The Year of the Portfolio Sale
The dollar volume attributed to portfolio transactions rose dramatically in 2016, partly explaining the meteoric rise in total investment. (Portfolio transactions are defined as having at least two assets sold to the same buyer. Most of the portfolios which sold were actually small—less than eight assets.)
Total portfolio transaction dollar volume reached $2.2 billion in 2016 with 22 portfolios consisting of 98 assets (excluding the Campus Crest and University House transactions). This marked a 66% increase in portfolio transaction dollar volume from 2015. Conversely, individual asset transaction volume remained constant last year.
The increase in portfolio transactions in 2016 resulted partly from owners watching the success of portfolio sales in the sector in 2015 and implementing the strategy when planning their dispositions last year.
Significant Price Appreciation in 2016
Two key pricing metrics further exemplify and explain the impressive rise in student housing investment as well as the keen interest in the sector: price per bed and cap rates.
Student housing on a per bed basis reached another record high in 2016. The $66,386 per bed average was 10% higher than 2015 and 30% greater than 2014.
For student housing transactions, the average cap rate for Q4 2016 was 5.76% reflecting a modest but still notable 9 basis point (bp) compression from Q4 2015.
Similarly, 2016 had an average cap rate of 5.87%,13 bps under 2015. Last year marked the first year in recorded history for the cap rate to average below 6.00% for each of the four quarters and the second consecutive year with the average annual cap rate at or below 6.00%.
The continued increase in pricing and cap rate compression can be attributed to, in part, favorable property fundamentals. According to Axiometrics, the average per bedroom rental rate increased 3.6%, and occupancy rose one half point for the 2015-2016 academic year. Combined these drove net operating incomes for assets that transacted in 2016.
Student Housing Still Provides Yield Premium
The cap rate spread between student housing and conventional multifamily has compressed over recent years. Yet student housing still retains a yield advantage over multifamily. Multifamily cap rates averaged 5.67% in 2016 according to Real Capital Analytics, representing a 20 bps spread between multifamily and student housing cap rates.
The spread between student and multifamily cap rates bodes well for student housing owners looking to sell since investors can enter the asset class and achieve better yields. While there has only been an average 10 bp spread on average between student housing and multifamily assets over the last two years, in major metros with large universities, the spread has averaged approximately 50 bps.
Debt Environment Favorable for Student Housing
The student housing lending environment was equally dynamic in 2016. In fact, the remarkable rise in student housing acquisitions last year was made possible by the availability of debt capital from an array of sources and at favorable borrowing rates.
At the same time, and of particular significance to the long-term health of the industry overall, lenders also maintained safe levels of leverage—typically between 65% and 75% loan-to-values (LTVs)—below the high levels experienced during the 2006-2007 boom.
Top of the financing source list were Freddie Mac and Fannie Mae, both of which achieved another record year having purchased a combined $112 billion in mortgages in 2016, an impressive 25% overall year-over-year growth. Over $4 billion of that total was from student housing loan purchases, up a dramatic 27% from 2015. The most notable 2016 change was that, between the two agencies, Fannie Mae provided the majority share ($2.6 Fannie, $1.6 Freddie).
Life companies continued to serve as an important source of capital for certain student housing deals in 2016. Life companies are typically more selective with their focus on the best Class A assets in major markets. When assets fit their criteria, life company financing is attractive on several levels including price, early rate lock options and flexible pre-payment provisions. Most loans are made at lower loan-to-value (LTV) levels (typically 65% or less), although for some notable exceptions, life companies have stretched up to as high as 75% LTV.
CMBS did fill some void for certain student housing transactions in 2016 but was not a significant provider of student housing financing last year. As a whole, the CMBS industry struggled to gain traction. Throughout 2016, CMBS was acutely affected by the credit market volatility and lack of liquidity in the bond market. The positive news for 2017 is that the implementation of new regulations including Reg AB and Risk Retention rules that went into effect at the end of 2016 so far have seemed to go well. There have been a number of recent securitizations this year that complied and traded at lower than expected yields. But how CMBS deals with these structural changes to their model will impact its ability to be competitive in the long term.
When the securitized debt sector is working effectively, it provides a valuable option for a segment of the student housing market, including deals in smaller markets and deals with some nuances that make them less attractive. CMBS can also be a valuable financing source for owners and buyers without a long track record in the student housing sector.
Banks have traditionally been a major source of financing for existing student housing assets and for development. However, new banking regulations combined with a notable amount of banks becoming full on their multifamily and student housing allocations, have created a much tougher lending environment, especially for construction financing.
For all types of commercial real estate, the most recent Federal Reserve Bank Senior Loan Officers Opinion Survey reflected weaker construction loan demand at large banks, but stronger at medium/small banks. Local or regional banks did fill a void on some 2016 and more recent financings. The challenge is that increased land and construction costs have produced larger loan size requests that are more challenging for the smaller banks to do on their own, necessitating finding multiple banks to club together on deals.
In 2017, pullback on construction lending by banks is expected to continue. While challenging to borrowers, the upside is that the new supply pipeline should be stable or decline, helping to preserve the strong property market fundamentals which benefit current owners.
By the CBRE National Student Housing Group
(Jaclyn Fitts, William Vonderfecht, Casey Schaefer, Ben Roelke, Mike Bryant, Jeanette Rice)
All the statistics cited in this article come from the CBRE National Student Housing Group’s year end 2016 investment report which comes from tracking nearly all student housing sales in the U.S. The statistics do not include recapitalizations and partnership acquisitions. The Student Housing Group webinar of February 15th (recording available here – link) provides further insights from the research including further segmentation of the statistics by age of property, distance to campus, and type of university. The full report will be published in March.