After last year's stock market downturn, 2023 has been much more favorable for investors. Since the S&P 500 bottomed out about a year ago, the index has gained 25% and has investors optimistic that a new bull market is coming. The index is just 3% below its all-time high and could be the final hurdle before a bull market is confirmed.
Much of the stock market's gains have been concentrated in a few stocks, leaving an opportunity for investors to get into those less-than-loved stocks that haven't rallied back so strongly. One excellent real estate stock you haven't missed out on is Walker & Dunlop (WD -1.93%). The stock is down 45% from its all-time high and looks ripe for the picking. Here's why.
Walker & Dunlop is a huge player in the multifamily lending market
Walker & Dunlop is one of the largest multifamily lenders in the United States, with $36 billion in multifamily loans originated last year. Only one company, CBRE Group, originated more loans at $59 billion.
Multifamily properties include apartment buildings and multifamily housing units and are one of the largest asset classes within the broader commercial real estate market. According to the Mortgage Bankers Association, multifamily financing comprised 68% of the $683 billion commercial real estate loans issued in 2021.
When it comes to financing multifamily properties, Walker & Dunlop is one of the best in the business. Over a decade, ending in 2021, the company has grown its transaction volume from $4 billion to $68 billion, an impressive 32% compound annual growth rate. Its total revenue and earnings per share have grown at 24% and 18% compounded annually during this period.
Rising interest rates have been a significant headwind to the business
The market environment for commercial real estate transactions, including multifamily, has been a headwind for the industry over the last two years. Since March 2022, the Federal Reserve has raised its benchmark interest rate 11 times by 525 basis points (5.25%). The Fed hasn't raised interest rates this quickly in over four decades, which is the last time the U.S. economy experienced persistent inflation.
The rising interest rates have created uncertainty across lending markets, especially in commercial real estate. The higher borrowing costs have raised the cost of financing and refinancing properties, and the uncertainty around when rates will peak has many market participants sitting on the sidelines, waiting for the dust to settle.
Last year, Walker & Dunlop saw its transaction volume drop 7% to $63.3 billion. However, the trend accelerated in the latter half of the year as transaction volume in the fourth quarter declined by 59% year over year.
The struggles have continued into this year as transaction volume of $24 billion is down 55% from last year, leading to a 20% drop in revenue and a 56% drop in net income. Walker & Dunlop responded to the decline by cutting employee headcount and reducing operating expenses during the lending downturn.
Chart by author.
The lending pullback presents a massive opportunity
Low property sales have weighed on Walker & Dunlop and the industry as a whole. Weakness across the banking sector earlier this year contributed to an even deeper pullback in funding for commercial real estate. According to the Federal Reserve, banks hold 60% of non-farm, non-residential commercial real estate loans. When Silicon Valley Bank (a subsidiary of SVB Financial) collapsed, banks pulled back funding significantly to ensure they had plenty of liquidity in the months ahead.
CEO Willy Walker said in May, "The recent banking crisis pulled banks out of the commercial real estate lending market almost immediately."The pullback in funding creates a huge hole in the market that Walker & Dunlop can fill. According to Walker, a 5% to 10% pullback in funding to commercial real estate would open up the need for $225 billion to $450 billion in new capital.
Walker believes the company should be able to raise this capital through its fund management business and its distribution network of 220 bankers or brokers nationwide. Walker said, "Investors value Walker & Dunlop's access to deal flow and banker/broker distribution network as deals get harder and traditional sources of capital move in and out of the market."
Image source: Getty Images.
Walker & Dunlop is well positioned for whatever the market throws at it
The commercial real estate market will continue to face headwinds from the higher cost of financing. However, at some point, companies will have to refinance their loans as they come due. When that happens, Walker & Dunlop stands ready to put its capital to work.
Either way, Walker sees an opportunity for the company. If rates increase further, he believes the distress that emerged this year will increase dramatically, leading to distressed sales and forced refinancings. As a top lender through government-sponsored enterprises (like Fannie Mae and Freddie Mac), it could provide rescue funding to that market. If rates stabilize, Walker expects financing and sales volume to increase; if rates fall, the company expects a "significant uptick" in volumes.
Walker & Dunlop could continue to face pressure from slow volume over the next quarter or two, but its longer-term opportunity is huge. The company is well positioned as a top lender through government agencies and has strong liquidity and access to funds to fill any gaps in the multifamily lending market. Given these dynamics, Walker & Dunlop is a solid stock to buy and hold on to for the next bull market.
