Capital Market Trends for the Seniors Housing & Care Property Market

 

Capital Market Trends for the Seniors Housing & Care Property Market

  • What are the trends for property development costs?
  • What are the trends for lending and loan performance?
  • What are the trends for property sales transactions and cap rates?
  • What are the trends for property investment returns?

What are the trends for property development costs?

Property development costs for senior housing tend to follow similar trends of other major real estate classes. Seniors housing development costs are most similar to multifamily residential and 3-star hotels, ranging from $80 to $250 per square foot, depending on location.

There is a wide range in construction cost between different types of seniors housing and care properties based on the target market, the amount of common area space, quality of the buildout, and different building code requirements.

Development costs fell from 2007 to 2010 because of decreased demand caused by the recession, falling commodity prices, and the difficulty in securing new construction loans. During this time, the Commerce Department’s new homebuilding cost index declined approximately 10%. Despite the recent pressure of rising commodity prices, construction cost indexes have remained low as many subcontractors have lowered bids to win new business. The new homebuilding cost index rose only 1.0% in 2011, which was 200 basis points below overall inflation.

What are the trends for lending and loan performance?

Consistent with the contraction in the credit markets, underwriting standards in general have become more conservative for senior housing properties. GSE underwriting standards are still competitive based on loan-to-value (LTV) requirements of up to 75% to 80% and minimum debt service coverage ratios from 1.3 to 1.4 times on stabilized projects. However, many loans are now underwritten to their value constraint, a trend not seen in the recent past. Rates on 10-year maturities for these loans range from 6.25% to 6.5%.

HUD financing recently has increased due to the FHA LEAN Program and continues to be a long-term, nonrecourse low-cost fixed rate financing option. However, lower quality assets or weaker markets have seen a reduction in the maximum leverage allowed. For many in the senior housing market, HUD financing was the only viable option for construction loans in 2009.

Commercial bank financing historically has been the largest source of construction financing in this industry. However, as of mid-2010, the commercial mortgage-backed securities (CMBS) market remains effectively shut, and large-scale syndicated financing remains difficult except for credit lines extended to solid credit investors.

Tax-exempt financing (bonds) has been constrained by fewer banks providing letters of credit, a doubling or tripling of line of credit (LOC) fees, and a lack of bond insurance. The cost of tax-exempt debt has increased considerably over its pre-credit crisis level, and refinancing existing debt on stabilized properties has been easier than obtaining financing for new construction.

What are the trends for property sales transactions and cap rates?

Property sales transaction volume is strong and near record high levels in terms of both the dollar value and the number of deals executed and closed.  Institutional interest in the sector has risen in recent years due to the sector’s favorable investment attributes.  These include desirable demographic trends, compelling investment returns, growing transaction volumes and liquidity in the sector, rising transparency and understanding of the sector and emerging post-acute care coordination opportunities.

Of the three seniors housing property types, assisted living and independent living properties generally have lower cap rates due to an increased amount of revenue related to real estate as opposed to services. Nursing care properties generally have higher cap rates near 11% because a significant amount of their revenue comes from government reimbursement through Medicare and Medicaid. This income stream is viewed as slower growing and more at risk to budgetary pressures compared with private pay revenue.

 Rolling 4-Quarter Cap Rates/Yields 4Q15

What are the trends for property investment returns?

Seniors housing and care properties is the only commercial real estate asset class that experienced positive asking rent growth during the Great Recession. As a result, rent growth has been steadier and less volatile than other commercial real estate property types.  Rent growth has also generally exceeded that of other commercial real estate property types.

Senior housing has experienced a unique resiliency in the commercial real estate market as a result of its dual components of real estate and need-driven services. The NCREIF Property Index (NPI) had a total investment return of 8.0% for the ten years ending in the third quarter of 2015.  Seniors housing returns compare favorably to this overall index, with a 13.3% total investment return over the same period. Returns for both income and appreciation were higher for seniors housing than the overall property index as well as for multi-family.

NCREIF Annualized Total Returns by Select Property Types
Periods Ending 9/30/15

NCREIF Comparative Returns Q3 2015