Oct062016

Wall Street doubling down on rental home investments

While probably late to the party, new large investors in single-family rentals embrace solid reasons for investing in this business model.

income_streamWall Street bought thousands of foreclosures during the housing bust. The capital from these investors absorbed the excess of foreclosures from the millions of borrowers who quit paying their toxic mortgages.

Many observers believed this business model would fail. While apartment complexes enjoy economies of scale on maintenance and operating costs, dispersed single-family homes suffer from higher maintenance and management costs. Many early players in the REO-to-rental game exited the business due the problems critics warned about, but these smaller players were gobbled up by larger players with more efficient operations and lower capital costs.

The industry matured over the last several years. The big players buy fewer homes and focus on managing their portfolios more efficiently. No large players entered this market since 2013 — at least until now.

A Onetime Housing Skeptic Plans $1 Billion Bet on Homes

Donald Mullen Jr., who a decade ago helped oversee Goldman Sachs’s lucrative bet against the housing market, is raising money for a big bet in the other direction

superfund_back_in_blackBy RYAN DEZEMBER, Updated Oct. 5, 2016

A big short is going long on the U.S. housing market.

Donald Mullen Jr., the former Wall Street executive who a decade ago helped overseeGoldman Sachs Group Inc.’s lucrative bet against the U.S. housing market, co-founded real-estate investment firm Pretium Partners LLC, which is raising $1 billion to buy single-family homes to rent out to tenants …

Mr. Mullen, the onetime head of Goldman’s mortgage-and-credit business, is now pitching pensions, endowments and other large investors on a wager that, four years after the housing market hit bottom, rents and home prices will continue to rise.

We believe tight credit availability is preventing new households from being able to obtain mortgages to purchase their first home,” Pretium wrote in its 69-page pitch to investors. “Households that have been unable to obtain mortgages have become renters, thus driving high occupancy rates and robust rent growth.” …

This simple analysis identifies the wrong reasons why this plan will work. Lenders extend credit to borrowers with verifiable income and solid credit scores because these borrowers will sustain homeownership. Lenders rely on these prudent standards (prudent, not tight) to sustain their own profitability and the health of the housing market.

The real reason rental occupancy rates will remain high is because Potential homebuyers can’t save for down payments with high rents. Persistently high rents plunge renters into a downward spiral where rents remain high because the number of renters remains high, preventing renters from ever saving enough to leave renting behind and become homeowners.

Despite getting the reasoning wrong, if he finds capital cheaply enough, he will earn a solid return on his investment.

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But economists expect the homeownership rate to keep declining over the next decade due to tough lending standards and a younger generation of potential buyers mired in student debt and less compelled to own homes.

The American Dream may be dead for the Millennial Generation. Not only are they saddled with large student loan debts, they endure weak income growth, and they face sky-high house prices needed to bail out the mistakes of previous generations.

The grim reality confronting Millennials removes homeownership from consideration. Why should Millennials embrace a dream they see no way of achieving no matter how much they sacrifice?cash_cow

The timing of the effort could be tricky. After a six-year boom, the overall market for rental properties has slowed amid a construction boom in luxury apartments, with apartment rents in some big cities declining in the third quarter, the first quarterly decline since 2010.

He’s like the college party goer who arrives at 11:30 and downs half a dozen shots to catch up to his friends. The time to enter the rental home market was five or six years ago. Even three years ago was too late.

Other big investors are grappling with a changing market as well. Colony Starwood recently said that during the second quarter it sold 608 homes for an average price of about $132,000 while it paid an average of about $196,000 each to acquire 87 homes.

Gardners prune the weeds for the health of the garden. Starwood sold the garbage for the health of its portfolio. Selling 608 homes isn’t a liquidation considering they own over 30,000 of them.

Blackstone’s buying, meanwhile, has slowed to about 20 homes a week, according to a person familiar with the matter.

Prices have come up a lot,” Blackstone President Hamilton “Tony” James told investors on a July call. “We’re still buying some homes. But it’s harder to buy in the volume that we once did.

I quit buying and selling homes in Las Vegas in 2012 because the inventory evaporated. It became nearly impossible to buy homes. By the time inventory came back to market, prices were so much higher that few compelling deals remained. Shevy finds the same dynamic in play in Orlando. The window of opportunity is closing there as well.

The window of opportunity in this market is open a crack, but only investors with the lowest cost of capital can exploit the opportunity.

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