Whether Fad or Fundamental, Major Firms such as Blackstone, Colony Financial Continue to Embrace Single-Family Rental Market
courtesy of Costar,
By Mark Heschmeyer
December 5, 2012

One of the most significant real estate investment trends of 2012 has been the tremendous amount of institutional capital directed into single-family housing rental investments. And while it’s still too early to tell whether it’s all a passing fad or ‘the next big thing,’ some have begun questioning whether the burgeoning industry will see long-lasting returns in rental income and property value appreciation.

If a fad, then the investment activity over the past few weeks could be the zenith of the trend. If part of a long-term housing recovery play, then the recent developments may well represent an inflection point as several new domestic and international institutional players have placed big bets on the market, including Blackstone and Colony Financial, which have stepped up their earlier efforts to expand their single-family holdings.

Blackstone formally launched its Invitation Homes last month as its national single-family rental platform.

“The single-family rental market has always existed with 12 million homes for rent but there never has been a national, institutionally-managed, single-family rental platform,” Blackstone said in announcing the launch. “In addition, household formation and population growth in the U.S. are solid but new housing supply is 63% below the historical average, creating a compelling opportunity to invest.”

This week, Colony Financial commenced a secondary stock offering to raise up to $195 million. Colony said that intends to use $150 million of the money raised to to make an additional investment in CSFR Operating Partnership LP, its investment vehicle created for the purpose of investing in single-family rental homes.

Also, this past week, Two Harbors Investment Corp. entered into an agreement with Silver Bay Realty Trust Corp. as part of Silver Bay’s plan to acquire a portfolio of more than 3,100 single-family residential properties simultaneously with the closing of its initial public offering.

And North Carolina-based U.S. Residential Asset Fund launched its unique program in the REO-to-rental market promoting its rent-to-own program.

The market opportunity has also attracted a number of international investors, including Sydney, Australia-based U.S. Masters Residential Property Fund, which is seeking to raise up to $80 million in additional funding to continue its aggressive purchase of New York metro area homes.

Examples of the recent entry of significant private equity players focused on bulk purchases of foreclosed homes in 2012 include:

– Blackstone: 6,500 homes in AZ, SoCal;
– Waypoint: 2,400 homes in CA, AZ;
– Colony Financial: 3,600 homes in CA, AZ, NV, TX, GA, CO; and
– KKR: 200 homes in AZ, NV.

First, Caveats Anyone?

Last summer, Oliver Chang, former head of U.S. housing strategy at Morgan Stanley, started his own asset management company, Sylvan Road Capital, to invest in distressed single family rental homes nationwide. This past week, Chang issued Sylvan Road Capital’s first housing market perspective analyzing whether “the fledgling businesses deserve the hype.”

“It’s hard to believe that it has only been nine months since the first true institutional capital to enter this market was announced by Waypoint Homes and GI Partners,” Chang observed. “Over the course of these nine months, we have seen the entrants of half a dozen additional large private equity firms, hedge funds, REITs and institutional investors, including Sylvan Road Capital. Despite the surge of activity, it looks like there is currently more hype surrounding this investment than substance. There seems to be more news articles, research reports, conference panels and press announcements than there are actual investments in actual houses.”

Accordiing to Chang, “The highest estimate of institutional capital raised or ring-fenced for this investment that we’ve seen is $8 billion. While this is a substantial amount of money by most measures, it is a miniscule percentage of the total supply of distressed inventory… We believe that the $8 billion is less than 1% of any reasonable estimate of the size of this actual opportunity. And yet the hype keeps building.

“While the attention to the industry is generally positive, one of the issues with hype is that it often glosses over the details, with reporters and analysts alike lumping all participants into the same bucket,” Chang continued. “This has led to some misperceptions about not only this opportunity, but the entire emerging industry being developed to serve institutional investments in single family rentals. And the biggest misperception is this: that all investments in single family rentals are the same. The truth is, this couldn’t be farther from the truth.”

Those differences are evident in the three latest investment plays in the single-family rental housing market.

A Long-Term Inflation Hedge

Silver Bay Realty Trust Corp. commenced an initial public offering of common stock seeking to raise up to $265 million. After closing on the offering, Silver Bay expects to acquire an initial portfolio of more than 3,100 single-family residential properties through entities associated with Two Harbors Investment Corp., a publicly traded REIT and Provident Real Estate Advisors LLC, a private capital management firm, in exchange for equity interests in Silver Bay, in its operating subsidiary, or for cash.

Silver Bay intends to use the net proceeds of the offering to purchase and renovate additional single-family properties and add them to its rental portfolio in markets where it sees an oversupply of properties available at attractive prices. Its current target markets are Phoenix, Tampa, Atlanta, Las Vegas, Tucson, Orlando, Northern and Southern California, Charlotte and Dallas.

“We view the single-family rental business as a long-term opportunity that is sustainable through economic cycles,” Silver Bay wrote in its offering prospectus. “As the housing market recovers and the cost of residential real estate increases, so should the underlying value of our assets. We believe that rental rates will also increase in such a recovery due to the strong correlation between home prices and rents. This trend also leads us to believe that the single-family residential asset class will serve as a natural hedge to inflation.”

Rent To Own

The investment strategy of US Residential Asset Fund LLC in Huntersville, NC, differs from other investors in that it plans to offer tenants a rent-to-own option.

Tenants, who might otherwise be long-term renters, can work with the fund’s strategic partner, Sagamore Home Mortgage, to resolve their credit challenges, qualify for a mortgage, and purchase the home they are renting.

US Residential Asset Fund was founded by Christopher Crippen, who was previously and FDIC ORE division manager with Prescient Asset Management and an REO sales representative with Fannie Mae.

The fund expects to invest more that $20 million distressed single-family housing over the next two years, beginning in Charlotte, Memphis, and Chicago metro areas. Phase two acquisitions will be in Atlanta, Indianapolis, Tampa and Orlando.

Buy and Hold New York

U.S. Masters Residential Property Fund in North Sydney, Australia, is unique among entrants this year in that it is the first Australian-listed property trust focused on the U.S. residential property market and so far, the only major player focused on the New York metropolitan area with a buy-and-hold approach.

U.S. Masters Residential Property Fund has acquired more than $165.4 million of residential properties in Hudson County, NJ and also Brooklyn and Harlem, NY, since its IPO in June 2011. It went back to market this week looking to raise up to another $80 million.

The fund is trying to capitalize on what it views as unsustainable current dynamics in the housing market:
· Monthly mortgage payments that are lower than rents for first time since 1981;
· Mortgage rates that are at historic lows;
· Housing starts that are at a 30-year low; and
· Valuations that have collapsed while rents continued to rise… significantly increasing yields to investors.

U.S. Masters Residential Property Fund has purchased a mix of freestanding and townhome properties. Any renovations it undertakes are not geared so much to a potential renter but to a potential re-sale of the property.

REO-to-Rental Structures Present Analytical Challenges

Fitch Ratings began receiving inquires for potential securitizations of single-family rental properties earlier in 2012 and published a commentary in August discussing its views. It noted several key challenges to the concept, including the lack of historical performance data and track records of property managers.

“One of the key challenges is the limited performance data at both the property and market level. The lack of performance history and track records of the managers’ also presents risks,” Fitch wrote. “While we have had conversations with some of the market-level data providers, one of which we found to have a robust data warehouse, the history only dates back to 2008-2009.”

For these reasons, Fitch said it was too soon to pass judgment and would be “unlikely to assign a high investment-grade rating to such transactions.”