Fannie, Freddie Woes Hurt Apartments

By NICK TIMIRAOS The deteriorating commercial real-estate market is hitting Fannie Mae and Freddie Mac, the housing-finance giants that were taken over by the U.S. last year after billions of dollars in losses on residential real estate. The firms, which together have taken more than $110 billion in capital infusions from the Treasury, stepped up their lending for apartment buildings as the commercial real-estate market peaked, and they are now facing rapidly rising loan losses. Fannie, which has been more active than Freddie, faces the biggest problems. Its serious delinquency rate, or loans that were 60 days or more past due, stood at 0.62% at the end of September, up from 0.16% a year ago. One troubling sign: one-quarter of the $180 billion of apartment-building loans on Fannie’s books were originated near the top of the market in 2007 and those loans account for nearly half of all its commercial-loan delinquencies. Fannie increased to $1.2 billion its reserves for losses on multifamily loans at the end of September, up from $104 million at the end of 2008. In a statement, Fannie Mae said market fundamentals “will remain under pressure in the near term” and that the company is taking steps “to mitigate risks associated with weak rental demand.” The losses from Fannie’s and Freddie’s $300 billion in apartment-building loans will be a fraction of their losses on single-family homes, where the two firms back $5 trillion of loans. But the bigger impact could be on the market for apartment buildings. The firms were responsible for 84% of all multifamily lending last year, up from 34% of the market in 2006, according to the Federal Housing Finance Agency. A report published earlier this year by Harvard University’s Joint Center for Housing Studies warned that without Fannie’s and Freddie’s continued purchases, “apartment transactions could come to a near standstill” and that could spur a further unraveling where even “cash-flow-positive projects may not be able to get refinanced and will be pushed towards default.” Fannie and Freddie say they were conservative in underwriting of apartment-building loans. For example, 97% of Freddie’s loans are still worth more than the value of the underlying properties. “We were careful about our credit, but with the markets deteriorating, everybody will be impacted negatively in some form or another,” said Freddie spokeswoman Patti Boerger. But, in recent years, critics say that the firms became more aggressive. Some deals that they financed wouldn’t have occurred without their participation. “By 2007, Fannie basically put more gas on the fire,” says Mike Kelly, president of Caldera Asset Management, a consulting firm fordistressed multifamily properties. For example, Fannie and Freddie together lent $9 billion to finance the buyout of apartment operator Archstone-Smith by Lehman Brothers Holdings Inc. and Tishman Speyer Properties. The original plan—to carve up the portfolio and flip assets—didn’t pan out as real-estate values softened. “There was no policy justification to … provide billions of dollars of financing for a deal that in retrospect tested the limits of aggressiveness in financing,” says Sam Chandan, president of Real Estate Econometrics, a research firm. Fannie and Freddie also bought $1.5 billion in commercial mortgage-backed securities backed by the sprawling Peter Cooper Village-Stuyvesant Town apartment complex in Manhattan, for which a Tishman-led partnership paid a record $5.4 billion in 2006. The new owners weren’t able to convert as many rent-regulated units to market rates, and the loan has been transferred to a special servicer. The property could be worth as little as $1.8 billion now, according to an estimate by Fitch Ratings, which last month said that the tranche of securities held by Fannie and Freddie faces a “medium-to-low” risk of severe loss. Most of Fannie’s and Freddie’s multifamily loans won’t mature for several years—two thirds of Fannie’s multifamily debt won’t mature until after 2013, for instance—allowing time for rents and vacancies to recover before owners have to refinance. Still, delinquencies stood at 1.6% on some $4.5 billion in loans set to mature next year. And those looming maturities only add to the uncertainty about whether Fannie or Freddie will stay active in the multifamily space over the medium to long term. So far, various proposals that address how to revamp Fannie and Freddie haven’t paid much attention to multifamily lending, but industry leaders say they aren’t concerned. While it would be a “very big blow” to the sector if Fannie or Freddie were forced to sharply curtail their multifamily lending, “that’s just not in the cards,” says Richard Campo, chief executive of Camden Properties Trust, an apartment company with some 62,000 units. “The idea that the government is going to do something negative to affordable housing in this interim period … seems pretty far fetched.” Write to Nick Timiraos at nick.timiraos@wsj.com