New research about the Cook County multifamily housing market by DePaul University’s Institute for Housing Studies (IHS) reveals significant price declines during the past three years, a sharp increase in the rate of foreclosures in 2009 and a burgeoning risk for future rental property mortgage defaults in the county, which encompasses Chicago and 76 surrounding communities.

The study also found that the multifamily financing market has been virtually abandoned by all but two financial institutions—the Federal Home Loan Mortgage Corp., known as Freddie Mac, and the Federal National Mortgage Association, known as Fannie Mae—an important trend that federal policymakers should consider as they contemplate short- and long-term policy for these two government-sponsored enterprises (GSEs).

The study’s author, James D. Shilling, the Michael J. Horne Chair of Real Estate Studies at DePaul, and IHS researchers analyzed Cook County Recorder of Deeds property data for repeat sales for 25,822 small (two to six unit) and 591 large (seven-plus unit) rental buildings in Cook County from 1998 to 2009. Key findings of the comprehensive study, titled "The Multifamily Housing Market and Value-at-Risk Implications for Multifamily Lending," include:

• Prices declined 46 percent for small rental buildings from their peak in the second quarter 2006 to the second quarter of 2009. Prices dropped 26 percent for large rental properties from their peak in the second quarter of 2007 to the second quarter of 2009.

• As property values fell, new multifamily building foreclosures continued at a record pace in 2009. With the exception of the second quarter, new foreclosures in Cook County numbered between 1,900 and 2,100 for small rental properties and 5 to 100 for large rental properties per quarter last year. The trend has forced many lenders to "pretend and extend," delaying foreclosures for about $1.5 billion of multifamily mortgage debt in the Cook County.

• Falling property values have put more than $13 billion in Cook County’s multifamily mortgages —30 percent of the area’s total outstanding multifamily mortgage debt—at risk of default. The value at risk is $12.6 billion for small rental buildings and $747 million for large rental properties in the county.

• Price declines and deleveraging imply less multifamily mortgage lending in Cook County, according to the study. Debt on large multifamily properties increased 128 percent, from $5.4 billion in 2004 to $12.5 billion in 2007, while debt on small rental properties rose 66 percent, from $17.4 billion to $28.8 billion, during the same period. However, new issuance of multifamily mortgage debt on large properties in Cook County fell 45 percent to $2.7 billion from 2007 to 2008 and fell again in 2009. Similarly, new issuance of multifamily mortgage debt on small properties fell 39 percent to $5 billion during the same period and plummeted even further in the first half of 2009.

• As local lending institutions scaled backed lending to large rental properties in 2008 and 2009, Freddie Mac and Fannie Mae have assumed most of the multifamily mortgage market in Cook County and nationally, according to the study. The two GSEs’ combined share of the rental property mortgage market in Cook County has grown from 10 percent in 2000 to nearly 70 percent in 2009. Nationwide, Fannie Mae and Freddie Mac account for nearly 90 percent of lending for large rental properties, according to Shilling.

• For one in eight rental apartment units, revenues are falling below operating costs for owners. Owners of about 74,000 rental units in Chicago (13 percent of the market) are currently spending more to operate buildings than they are collecting in revenues. "These units are significantly at-risk of decreased or discontinued maintenance," according to the study.

"The multifamily foreclosure crisis has not received as much attention as the crisis in the single-family housing market, but the trends outlined in this report demonstrate that it should," Shilling said. "More than 32,000 units in the Cook County rental market are impacted by foreclosures currently under way. This is not far behind the number of single-family units in foreclosure, which totaled 38,000 in Cook County last year. And this is not just a Chicago issue. The same trends are happening in New York, Atlanta, San Francisco, Phoenix, Los Angeles and other cities.

"The crisis in the multifamily market is even more troubling because most of the single- family housing that goes through foreclosure will be absorbed by renters taking advantage of below-market prices and housing policies that encourage home-buying," Shilling said. "There’s going to be a shift from renting to owning and, unless the economy comes roaring back and we see a resurgence of incomes and employment, there will be no backfill to replace the renters who leave to become homeowners. Consequently, the main losses we will see in the future housing market will show up on the multifamily side."

Shilling noted that the study’s examination of the local and national multifamily housing finance environment provides important short- and long-term policy implications for Fannie Mae and Freddie Mac, which Treasury Secretary Timothy F. Geithner pledged to reform this year. Rep. Barney Frank (D-Mass.) is among Congressional leaders from both parties who have called for reducing the size of the portfolios of the two GSEs to limit taxpayers’ exposure to current single-family and mortgage-backed security risks. In the short term, such a move would worsen the multifamily market because Fannie and Freddie currently securitize or have purchased 55 percent of the $11 trillion single- and multifamily mortgage market in the United States, Shilling said.

"This study shows that Freddie Mac and Fannie Mae have become indispensible to the multifamily mortgage market as private lending has essentially ceased to exist in this market since 2008," Shilling said. "Without lending by Freddie and Fannie in the short term, there’s going to be a significant increase in defaults when these multifamily loans come due."

Of the $44 billion in multifamily mortgages outstanding in Cook County, roughly a third, or $15 billion, will come due in the next five years, according to Shilling. "If we don’t have lenders like Freddie Mac and Fannie Mae willing to make these loans, we are in essence adopting a policy of forcing these loans into foreclosure. As it decides the short-term future for Freddie Mac and Fannie Mae, the government needs to weigh the social costs of these foreclosed, boarded-up properties—including crime, lack of affordable housing and health concerns—which have significant impact on residents and communities."

However, in the long term, a more targeted approach to Freddie and Fannie’s role in the market is warranted, Shilling said, adding that policymakers may want them to focus only on securitizing low-income multifamily housing in the future. "Long-run policy, extending beyond the next five years and the current crisis, must necessarily take into account the extent to which Fannie Mae and Freddie Mac subsidize interest and create an incentive to take on excessive debt."

The study also suggests an expanded lending role for the Federal Housing Administration (FHA). "FHA multifamily lending traditionally has included the purchase, construction and rehabilitation of rental properties," Shilling observed. "A strong case can be made that, if any one thing is most needed in this environment where properties may fall into disrepair, it is joint financing for the purchase and rehabilitation of rental properties." In addition to FHA, local public agencies like the Illinois Housing Development Authority and City of Chicago and community development lenders like the Community Investment Corporation continue to play key roles in making credit available, especially for affordable properties, Shilling said.

The study is part of a series of IHS reports that aim to provide affordable housing practitioners, government housing agencies and community organizations with reliable and impartial data about the state of affordable rental housing in Cook County and guide collaborative efforts to save this housing.

IHS is a partner of The Preservation Compact, which was founded in 2007 to stimulate a more comprehensive approach to preserving the affordable rental housing stock in Cook County. Guided by the Urban Land Institute Chicago with support from the John D. and Catherine T. MacArthur Foundation, The Preservation Compact partners, in addition to DePaul, include Local Initiatives Support Corp./Chicago, Chicago Community Loan Fund, Community Investment Corp., Center for Neighborhood Technology, Chicago Department of Community Development, Illinois Housing Development Authority, U.S. Department of Housing and Urban Development, Chicago Rehab Network, Sargent Shriver National Center on Poverty Law, Metropolitan Planning Council and the Cook County Assessor’s Office.

IHS is affiliated with the Real Estate Center at DePaul, which oversees two Preservation Compact programs: the Rental Housing Data Clearinghouse, maintained by Shilling and other DePaul researchers to produce studies on the region’s affordable rental housing using data from multiple sources, and The Preservation Compact Interagency Council, which is composed of federal, state, county and local agencies that develop preservation strategies using the data. More about IHS and its research can be found on its Web site, IHS.depaul.edu.

Editors' Note: Click here to view the full study:

http://newsroom.depaul.edu/PDF/213694_IHS_Housing_Report_v6.pdf

View James Shilling discussing the study on the nationally syndicated business program "First Business:" http://www.youtube.com/watch?v=_dcA2ZvMStE
(video posted with permission from "First Business").