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Conservative Underwriting Helps Navigate Turbulent Markets

Updated: Feb 21, 2023

The volatility in the debt markets today is really hard to predict and it's been putting a lot of pressure on cash flows.

We’ve been shifting our strategy to account for that, to protect the downside, which is why we're getting into fixed rate agency debt that has a fixed loan payment.

This lets us reduce the uncertainty and the volatility in cash flows in our underwriting, which has been even more conservative than what we've historically done, and it was already on the conservative side.

We’ve talked about this before, but in terms of deal flow, this volatility can help create opportunities for real estate investors, at least those of us that are keeping our deal flow active. When looking for opportunities, it’s important to have a stress tested model you’re comfortable with that aligns with the realities of today’s markets.

Deal Flow Picking Up

Things were very slow over the holidays and there still aren’t really a lot of deals on the market, but we’ve started to see that shift over the last several weeks. We're seeing a variety of deals now, specifically loan assumptions, which is a hot topic. It’s interesting since, when you look back to a year ago, loan assumptions were trading at a discount. Now, with the treasuries up, they're trading for a premium.

That being said, a lot of deals we are seeing on the market are specifically from institutions. There’s a lot of speculation on whether that’s based on on fee redemptions and putting the more liquidity back into the funds. It’s presenting opportunity for us and other buyers that are active in the market because you get the chance to acquire a high quality institutional asset and they’re being priced to sell.

When is the distress going to really hit the market? (By distress, I’m referring to opportunity capital, or rescue capital.) I don't think we've even hit the beginning at this point. The reason I say that is because there were a lot of bridge deals done mid to late 2020 and a lot of them had two to three year maturities. These were highly leveraged deals with aggressive underwriting assumptions, and they were purchased at a around a 3% cap rate.

Based on where the cap rates are in the market now, it's hard to make a business plan work. These underwritten assumptions were very aggressive both on the rent side and on the unit upgrades. What we're starting to see is that with the higher costs of material, the business plans are being executed but a lot of groups are running out of capital. These loans are starting to mature along with the rate caps that they purchased, which are extremely expensive right now. So, if you want to extend your loan, you're going to pay a premium and you're going to have to come up with capital.

We’ve seen this first hand, but we haven't necessarily seen the volume that we're anticipating to come in the back half of the year. A lot of groups don't necessarily know what they're going to do going forward, so they're approaching groups like Blue Lake Capital. That’s where we are seeing opportunity. We expect that to continue; buyers or JV partners can come in and acquire high quality assets at a strong basis.

Relationships Are More Important Than Ever

To find these types of deals, relationships are going to be even more important than usual in 2023, so I’d highly encourage you to grow your network now. Even though deals that we're looking at today are not being marketed, they're trying to move the deals very quietly, and a lot of them are coming from strong relationships that we've built over time.

What’s more interesting is that the opportunity for the deal flow comes down to the broker's expectations. What they're doing is the sellers are coming to a broker and they're saying, “I'm looking for guidance on this deal. I'm a market seller. Go bring this to your top 10 to 15 groups.”

Those groups are getting a first look at it where others don't even know that it's up for sale.

With a lot of the deals that we're bidding on now, there are five or six groups, whereas a year ago, these deals were competing with five to 15 group and there was a lot of overbidding along with it.

We're seeing the opposite of that now, that discount or that bid/ask spread is about 10%; it’s starting to shrink because sellers are finally now getting comfortable with the idea that we are no longer in a period where we can sell a 3 cap in a secondary or tertiary market in the Sunbelt.

Prices are starting to change, but at the same time, the spread is still maintaining a reasonable amount, just from the fact that now buyers are facing interest rate risk. We’re not yet to the point where we’re seeing a lot of mutual agreement between buyers and sellers, but we're getting there.

We all know that, over the past two or three years, investors really benefited from incredible rental increases. This will continue, albeit at a slower pace than what we've seen. You may not see 30% exits because of the cap rate compressions but you are still going to see steady cash flow and long-term appreciation because the fundamentals of the industry are still very strong.

Strong Markets Will Reward Patience

Patient investors will be rewarded if they focus on strong, growing markets and staying the course with your business plan. Despite the supply wave that’s coming in the Sunbelt and other markets, when you look long term through 2030, we are still supply constrained and renters are still strong.

As people continue to migrate and accelerate their relocation plans, we’ve seen favorable demographics as a key indicator for finding the best deals. We’re going through some short term bumps in the road, but there’s so much momentum in the Sun Belt markets that, mid to long term there will be renewed job growth and the influx of new residents will help insulate us from a lot of the supply wave. People want to be where the weather is good and the tax environment is friendly.

Focus on Operations

A key part of your underwriting & business plan in 2023 will be honing in on asset management and operations to make sure that these properties are performing in our are cash flowing. We’re putting an emphasis on expense discipline in an inflationary environment. We want to control our variable expenses to make sure that we’re allocating and distributing every dollar that's coming from your rent growth down to the bottom line and going directly to our investors.

Blue Lake Capital has always operated with a value add strategy. What that comes down to is simply how we manage our assets. How much income can we get out of a property, and a lot of that comes down to just simply how we’re managing it. It's the simple things of operational strategy; how do we engage a prospect, looking at the resident experience to drive retention, that's what will lead to great reviews, which in turn will drive to your property.

All of these things are critical pieces that we try to analyze up front when looking at an asset. The financials speak for themselves, but we’re looking for the story about how the operations are performing.

Key Takeaways:

  • First and foremost, continue to look at the big picture. There’s a lot of volatility in rates and cash flows, so there will be some bumps, but continue to focus on the long term.

  • Stay the course with you plan and make sure your investment goals align with your expectations, but if you continue looking at the long term the appreciation is going to be there.

  • From the owner/operator side, focus on the operations. That’s going to be critical. The numbers will follow, but to really provide superior risk adjusted returns for your investor base it's all going to come down to a lot of asset management.

  • When looking at acquisitions, it all depends on how you buy the property. You want to make sure to do your due diligence. Be conservative with your underwriting and make sure that you don't forget about honing in the operational structure and the expense load more specifically.

At the end of the day, we feel that market volatility is likely to be with us for some time, but we plan on staying the course and focusing on strong fundamentals.

As always, Be Bold, Be Great, and Keep Pushing Forward.


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About Ellie Perlman

Ellie is the founder of Blue Lake Capital, a commercial real estate investment firm specializing in multifamily investing throughout the United States. At Blue Lake Capital, Ellie partners with both institutional and individual investors to grow their wealth by achieving double-digit returns by investing alongside her in exclusive multifamily deals they usually don't have access to.

A defining factor of Blue Lake Capital’s strategy is founded in utilizing machine learning/artificial intelligence throughout the course of all acquisitions and asset management. This advanced technology enables the company to produce accurate and data-driven forecasting for all assets on a market, property, and even tenant basis. In doing so, Blue Lake is able to lead commercial investments with the full capabilities of today’s technology.

Ellie is the host of REady2Scale, a podcast that highlights the assets, processes, and strategies for the multiple approaches to successful real estate investing.

She started her career as a commercial real estate lawyer, leading real estate transactions for one of Israel’s leading development companies. Later, as a property manager for Israel’s largest energy company, she oversaw properties worth over $100MM. Additionally, Ellie is an experienced entrepreneur who helped build and scale companies by improving their business operations.

Ellie holds a Masters in Law from Bar-Ilan University in Israel and an MBA from MIT Sloan School of Managemen

You can read more about Blue Lake Capital and Ellie Perlman at


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