By Kevan McCormack

The Senior Housing Industry has been on a tear the last several years and shows no signs of slowing down.  The senior housing market has been endowed with some of the best market fundamentals and demographic trends that can be found for any real estate asset class.  No wonder this asset class is becoming the darling of the real estate investment world.

With M&A activity on a steady rise for Senior Housing over the past several years, it is no surprise that the space has experienced a compression of cap rates at a surprising pace.  With average cap rates at the end of 2013 in the high 6% range for newer properties, the question everyone wants to know is, “Is this a temporary trend?”  The short answer is, “No.”

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As the average cap rates for senior housing has likely neared a bottom for the time being, there continues to be cap rate compression between the various types of senior living (i.e. Independent Living versus Assisted Living / Memory Care).  Historically, Independent Living traded about 100 basis points higher than normal market rate multifamily apartments.  And, why not? They have traditionally just been apartments for older, but still active, adults.  I think this spread might narrow a little but likely continue to be about 70-75 basis points going forward.

What is more interesting is the spread between Independent Living Facilities (“ILF”) and Assisted Living Facilities (“ALF”).  As the REIT and M&A markets continue to prefer higher acuity and needs-based facilities over the last several years, the ILF to ALF spread has shrunk from 70 basis points in 2011 to about 16 basis points in 2013.

This activity has been good for the industry.  More investors, both foreign and domestic, have come into the space alongside the REIT’s, providing further downward pressure on cap rates.  However, the best part is that the market is becoming educated in the product type, and this is good from the supply side of the equation.  Historically, the biggest problem in obtaining financing is that both lenders and equity partners do not understand the product and view it as a business, not real estate.  With a more educated market, you are seeing more creative capital providers gaining comfort with the product type and providing capital to the industry.

While this supply side activity might provide some upward pressure on cap rates, I actually believe it will just help to stabilize cap rates for a more durable investment future.  In any case, for experienced operators and developers, the capital might be a little hard to find, but it is there for the right team.  This is the best barrier to entry any real estate segment can enjoy: a responsible capital market!

To learn more about your debt and equity options for financing senior housing, contact Kevan McCormack (kmccormack@metcapital.com), or visit our website at www.metcapital.com