Mobile home parks are one of the big beneficiaries of Fannie Mae/Freddie Mac lending. Coming out of nowhere not too long ago, “agency” debt now represents more than 50% of all new mobile home park loans in terms of total dollars. How will this lending powerhouse help reshape the industry in the years ahead, and how can you take advantage of this opportunity?
Episode 168: Agency Debt Transcript
Who would have ever dreamed that something invented in 1938 would go on to be one of the biggest things in affordable housing today? No, I'm not talking about mobile homes, I'm not talking about mobile home parks, but something else from the 1930s. And that was the invention of the Federal National Mortgage Association, now known as Fannie Mae. This is Frank Rolfe, the Mobile Home Park Mastery Podcast. We're talking about the power of agency debt and how it has shaped and is shaping the industry. Now, what is agency debt? Well it's two components. The Federal National Mortgage Association, also known as Fannie Mae, started in 1938 in part of the new deal. The concept of 1938 was prior to the Great Depression, most home mortgages were short-term with balloon payments. During the depression, roughly 25% of all homeowners could not replace their mortgage or find an alternative mortgage source. So the defaults were rampant. The government vowed to make sure that in the future, this would not happen.
So as part of the new deal, they developed Fannie Mae to help securitize mortgage debt, allowing lenders to then write more mortgages. The companion to Fannie Mae is known as the Federal Home Loan Mortgage Corporation, and that's known as Freddie Mac and that started in 1970. That was a second round of the government trying to spur on the ability for people in the housing industry to get mortgages. Now, what's interesting is today, that which started out as a single family home mortgage concept, now underwrites roughly over 50% in dollar value of all mobile home park loans in the U.S. Now, what are the basics of these loans? Well the minimum loan size is typically a million dollars. However, because there's been a lot of properties that have got into forbearance under $3 million, thanks to COVID-19 and other forces, today, they're looking primarily at deals that are $3 million and up. And for first-time buyers, sometimes as large as $5 million and up.
So Fannie Mae and Freddie Mac is not for the faint of heart. This is not a loan product you can use on smaller mobile home parks. Now, the interest rates are amazing on these loans. The interest rates right now would be in the mid 2% range, which is just incredible. And that's on a fixed rate loan of up to 15 years in length. The terminal loans can be five, seven, 10, 12, or 15 years fixed with 30 year amortization, and you can even get some interest only on those loans. The loans do have defeasance, which is a penalty. So if you don't make your payments and then you want to sell it, or you just want to sell it, you're going to have to pay a thing called defeasance, which is a penalty which is required to have an early pre-payment of the loan. They are assignable if you can find a qualified borrower, but it does cost you a 1% fee. The requirements on net worth and liquidity are very high.
You have to have about 100% of the loan amount in net worth and then about 10% of the loan amount in liquid assets. So that's not set in stone, but that's what they like to see. Now, how is this loan product having so much power over the industry? How is it reshaping the way things work? Well first, remember that these loans are only applicable for housing loans. You cannot get Fannie Mae, Freddie Mac for a retail center, or an office building, or a self-storage facility. So that right off the bat gives mobile home parks and apartments and houses a distinct advantage from an investment perspective on financing over real estate sectors. But that's not really the full power, that's just part of the power. The big power to agency debt is the fact that it's allowing CAP rates to come down without compression on these larger and more institutional quality properties.
If you can borrow money at Fannie Mae or Freddie Mac at 2.8% on a 15 year fixed, and you want to get a three point spread which gives you a very handsome cash on cash return, that would allow you to buy that deal at about a 5.8% CAP rate. Now, you might say, "Wait a minute now. That sounds like CAP rate compression to me." Well in the old days, it would have been. If you go back in time into the 2000s, yes, people at the worst of the market before we had the great recession of 2007, there was some time by mobile home parks with CAP rates that were in fact lower than prevailing interest rates, which back then were typically in the six and 7% range. I myself sold a very large mobile home park during that era at a 4% CAP rate, and the guy borrowed on it at a loan that was somewhere in the 6% range. That's upside down and that's true CAP rate compression.
But today what's happening is with agency debt, people are able to buy larger properties, nicer properties that would appear to the outsider, to someone who doesn't understand the world of lending, as prices it must be too high because those CAP rates seem to be so low. But the trick is that CAP rates and interest rates are always intertwined. You're not going to be able to have low CAP rates successfully without low interest rates. And remember that all the way back into 1776, when our country was founded, interest rates were typically around six to 7%. That was the gold standard and went on for a couple of hundred years. But then we hit quantitative easing with the great recession in 2007, the interest rate environment changed and possibly permanently. You see the issue is we have so much federal debt today. We're currently at 20 something trillion of debt. We're the biggest debtor in the world.
So as a result, we really cannot afford to have high interest rates and be able to make our note payments as a country. That's why we assume that interest rates will remain about where they are. They can go up a little perhaps as they did before COVID-19, but then they always seem to come back down. The government tries to keep the money pretty rigid range of rates that make our debt affordable as a country. Now, what's the future then of agency debt and its impact on the mobile home park industry? Well I think you'll see some things unfold going forward that'll be pretty darn exciting. The big one I think is going to be the dollar value of these loans will come back down again. Again, lenders don't like to lose money. Their motto is before you can have return on capital, you must have return of capital. And remember that banks don't share in any of your upside. All they get on the successful mobile home park loan is the same interest rate as on the more risky and sometimes less successful loan.
So since all they'll have is preservation of capital to look forward to, they want to be in deals that succeed. And right now, they feel the larger deals are safer, but they bet as low as a million before and they'll probably go back down. I remember a period before the great recession where conduit, also known as CMBS loans, were down all the way to $350,000. Some old timers in the industry will remember this fact, people would not believe it today. Today, you can't get a conduit CMBS loan, which is a competitor to Fannie Mae and Freddie Mac for much under a million dollars in face value. However, there was a time when you could. I project that as long as mobile home park loans keep doing as well as they're doing, one day it will return to a time in which you can get a $1 million Fannie Mae, Freddie Mac loan out a mobile home park, and possibly even lower. They're going to make as many loans as they can as long as they can always get their money back and get their interest.
It's really an amazing thing that's happened in our industry thanks to Fannie Mae and Freddie Mac. There's been all these discussion of how the government can help the cause of affordable housing and the focus has always been on the home's side. The manufacturers of the homes are always rattling, letting more and more lending for the homes. But really as a park owner, I'm not as concerned about the homes. What I'm concerned about is getting good, solid Fannie Mae, Freddie Mac access to making loans on mobile home communities. And they've been doing that amazingly well. If you look at the programs, they were making mobile home park loans 25 years ago at Fannie Mae, Freddie Mac. But the problem was they were only five star quality parks, and very few loans were ever done. And most of the mobile home parks in America would never qualify. However, five years ago, they took a more serious look at the industry and how they could help, and they'd done a tremendous job.
If you were to say, "Who are the most important people in the mobile home park industry going forward? Who is giving the most support to the American cause of affordable housing?" Fannie Mae, Freddie Mac would be roughly at the top of the list. They're doing a tremendous job at allowing park owners to buy older properties, bring them back to life, provide great living environments for millions of Americans. And we thank them very much for that. Again, agency debt, top on our list, something that is really helping the industry and has great future potential to really help shape the industry. This is Frank Rolfe, the Mobile Home Park Mastery podcast. Hope you enjoyed this. Talk to you again soon.