Institutional market for US single-family to multiply

For a decade now, institutional investors in the US have taken advantage of dislocation in the single-family home market. And today is no different – with home ownership out of reach for some and impractical for others, investors are finding opportunities in the single-family rental (SFR) sector.

Certain trends have coalesced recently to increase the demand for single-family homes. In demographics, the millennial cohort is reaching the age when family formation begins. For them, as for many others, pandemic restrictions led to higher savings rates, as there were few opportunities to spend disposable income and they benefitted from government subsidies.

The pandemic and the working-from-home trend highlighted the desirability of indoor space, raising competition for available housing, especially single-family homes. While demand – and rents – in some urban markets, like New York City and San Francisco, have been rebounding as workers returned to the office, there is still increased demand for single-family homes among those who are benefitting from increased flexibility. At the same time, oversupply generated during the subprime lending crisis a decade ago has levelled out.

Demand for single-family homes is exacerbated by trends in new home building. Supply-chain issues and materials shortages are a problem for builders; the National Association of Homebuilders’s measure of single-family homebuilders’ confidence fell to a six-month low in March. 

So while people may be poised to buy, especially millennials looking to enter the market for the first time, as well as retirees looking at a future of constrained income, home buying may remain out of reach. Mortgage rates are rising after years of record lows, and the US Federal Reserve has signalled its commitment to keep raising rates this year to control inflation. At the same time, the median price of single-family homes has risen faster than income. According to Moody’s Analytics, the median home price is 5.6 times higher than median income today. From 1985 to 2000, it was around four times higher. 

These factors taken together have increased interest in the growing SFR sector, not just from potential tenants but also from institutional investors. And today’s market is very different from that seen after the financial crisis, when deep-pocketed institutional investors scooped up homes in foreclosure and aggregated them into investment-grade portfolios. Instead, many investors are turning to ground-up development or buying new or in-process developments from home builders, the nascent build-to-rent (BTR) sector.

GTIS Partners has experience with a variety of SFR strategies, having started buying disparate single-family homes in 2013, capitalising on the market conditions at the time and acquiring about 5,000 homes across seven cities, which have all been since sold.

“The aggregation model was an appealing proposition – there was a dislocation in value due to the abundance of foreclosures, the buyer pool was thin and as a result home prices were distressed,” says Theodore Karatz, managing director for US acquisitions. “Our house view was that the [US] was not producing enough homes and, despite the negative climate at the time, that things would recover. Fast forward from there, the markets did improve, resale home prices grew considerably and the gap between values and replacement cost narrowed and then evaporated.”

Four years ago, GTIS started building purpose-built SFR communities as a developer and operator. Karatz says: “The premise wasn’t to convert for-sale homes to rental homes. Rather, we were conceiving these communities from the start with the intent to rent them, which allowed us to design to optimise top-line revenue and maximise operating efficiencies, akin to a multifamily REIT. Asset selection was driven by the specific submarket, similar to any investment, but considerations like unit count and amenity scope were critical in finding the right investment opportunities that we felt could be successful for the longer term.”

This BTR approach has evolved with experience. “In 2017, we were unsure whether we wanted a single-family housing community to be exclusively rental or whether we preferred to have rental homes be part of a for-sale subdivision. Now, controlling the entire community is the opportunity,” says Karatz. “We feel that implementing an on-site property management structure with leasing and maintenance provides a high-quality experience to residents.” In his view, the execution of the on-site management strategy is synonymous with traditional multifamily, leading to a branded, cohesive resident experience. 

GTIS focuses on four Sunbelt markets – Phoenix, Raleigh/Charlotte, south Florida, and Tampa. The firm’s most recent closing is in Tampa, a 27-acre site to be developed into a 260-unit BTR community. It is GTIS’s fourth BTR project, with five others that are under control and in the design phase and the first outside the Phoenix area. “As an operator, we plan to leverage our residential investment experience across several markets, but the rollout will be measured as we work to achieve scale within each,” Karatz says.

As a long-term player in the market, Karatz is aware that competition is growing. “The fundamentals for this investment thesis are strong, and this product is still relatively nascent with great potential to evolve and improve. There have been several announcements of capital raised for this opportunity, but it’s unclear how this capital will be deployed,” he says. “We feel our experience across the residential spectrum of home building, land development and rental will create opportunities for investment and we are excited to grow our platform.”

One of those competitors is Man GPM, the private markets arm of UK-headquartered Man Group with a fast-growing US residential real estate investment arm headed by Anthony Cazazian, managing director and head of US residential real estate. The majority of Man’s private-market focus is on real estate, and the firm is particularly attracted to US housing. “We saw the demographic trends and the lack of supply post-financial crisis, and it’s an operationally intensive market in which it is harder to acquire scale – Man excels at solving complex investment problems,” says Cazazian. “There are higher barriers to entry than one might think. When there are complex problems to solve, others might be slow to enter.”

Man GPM is in 18 markets, mainly in the south but also some in the midwest and west and is also active in debt strategies with a variety of products secured by residential investments. The firm pursues multiple channels, including existing homes being resold, to new homes bought direct from builders, to direct investment in BTR communities. But it has a focus on a similar profile: three-plus bedrooms, in first-ring or second-ring suburban markets.

“We are not taking a singular approach,” said Cazazian. “But we have been doing this for 10 years, and we have found our way to run a large, disparate portfolio.”

The operational complexity noted by Cazazian and Karatz can be a deterrent to entry – and there are competitors who are capitalising on that. Unison is one such firm, a vertically integrated shared-equity provider. It provides an alternative to reverse mortgages, buying a share in the value of individual homes, for which repayment is a function of the eventual value of the home, and aggregating these shares into a vehicle in which institutional investors can invest.

Matt O’Hara, head of portfolio management and research at Unison Investment Management, says: “Direct investment in the single-family market is very popular. The main difference is the overhead required to make the investment – the operator component. The Unison contract is a financial contract.”

O’Hara says that with rising interest rates coupled with inflation, this is an interesting time for investors to capitalise on residential real estate. 

“There is a lot of hedging now just by owning homes. The traditional theory would say that, if inflation is going up, mortgage rates go up. And mortgage rates have gone up a lot. In fact, the cost of getting access to money has gone up,” he says. “Unison contracts look very good in comparison.”

The emergence of firms like Unison demonstrates that single-family housing as an asset class is still evolving. Man GPM has always had a strategic focus on evolution. For example, the firm has been in the BTR sector since 2014. Then, in 2018, it took a major step by deciding that all new-builds must meet EnergyStar standards. 

“We will have a continued focus on the ESG side of BTR. We feel that there is a good opportunity to incorporate ESG into our investments at a time when consumer and investors are very focused on well-being and sustainability,” says Cazazian. 

“We are early in an evolution within home building – there have been great advancements in material, construction and technology, and we are partnering with like-minded builders and developers.

“The SFR asset class will continue to evolve just as the investor base has. We are seeing all types of investors in the asset class, from core/core-plus investors all the way through to opportunistic investors,” says Cazazian. “When you think about traditional multifamily, we have seen consolidation take place over decades and we are just at the early stages of seeing that happen in SFR, although we do not expect consolidation in SFR to get to multifamily levels.”

This implies that the product will differentiate further. “As this sector matures, so should the product offerings, which is a good thing in my mind,” says Karatz. “Ultimately, the future of single-family housing is both for-sale and for-rent, so there are a number of opportunities to develop new product, reach new segments of renters, and expand the tent for what is possible.”

As the BTR asset class specifically evolves, the similarities with traditional multifamily grow. Karatz says: “We will certainly see a value-add investment strategy evolve out of the early-generation communities that are starting to age and have opportunities to improve. And we have recently seen the capital markets converging between the two financing costs, the lenders themselves, and cap rates are narrowing towards one another.”

Exit strategies are also converging with multifamily. With different SFR properties, investors had the option either to sell to an end user or on an income-based play to another investor. With BTR in a community structure, there is a limited ability to sell as a one-off.

This is a market in its early days. In fact, institutional investors represent less than 3% of total SFR homes in the US, according to the Urban Land Institute. But the asset class looks set to stay. “Our view is that the future of new housing will be both for sale and for rent,” says Karatz. “Take a master-planned community with seven villages: today, six are for sale and one is for rent; I wouldn’t be surprised if it was half rental and half for sale in a few years’ time.”