In light of the news coming out of the bond market recently, I have been thinking about how the numbers behind our deals will change in the event of a recession.
Obviously, the ideal scenario for us would be:
- Interest rates decrease;
- Rents stay the same or continue to rise; and
- Prices for assets decrease.
In that scenario, our models would show both higher unlevered yields AND the ability to get more / better leverage post stabilization, and therefore higher levered yields. That would be awesome for us and our capital partners.
Of course, that’s extremely unlikely to happen, because, if rates decrease and operating performance stays the same or improves, the appeal of owning the assets increases, and therefore prices are likely to increase.
So, what will happen in a recession? Most likely, as already seems to be happening, interest rates will decrease. And then employment growth will slow, then reverse, leading to weakening demand for apartments and, therefore, rent decreases.
The question is, will rents go down enough to counter-act the effect of reduced interest rates and make buildings less appealing, leading to asset price decreases and, therefore, a buying opportunity?
I have no idea.