For SFR, Adversity Is in Our DNA
It’s Far Too Early to Write Eulogies for the Late, Great SFR Market
By Greg Godderidge
From humble beginnings, the Single-Family Rental (SFR) market has grown into an asset class worth trillions of dollars. Today, institutional investors own approximately 500,000 properties of the 16 million single family rental homes nationally, representing a fraction of all rental units in the United States. But their importance to the national housing industry is unquestionable, as they provide consumer choice, professionally managed properties, and an attractive alternative to the traditional multifamily or apartment rental options.
With the housing market going through a period of correction caused by the Fed’s mandate to tame inflation, the industry is enduring its first stress test since the Great Recession. Acquisitions have slowed while warehouse financing and securitization deals have been put on ice after the Fed’s unprecedented interest rate hikes beginning in March of 2022. Will the SFR Asset Class survive the challenge? For those questioning the ability to weather the storm, let’s remind them that the SFR business was born out of adversity and is built to withstand imperfect market conditions.
A Look Back at History
Let’s take a quick look back at the origins of the SFR industry. The Great Recession and the collapse of the mortgage market led to a surge in foreclosures, which peaked in Sept. 2010, when approximately 120,000 homes were repossessed in a single month. With the sudden inversion of supply and demand, home prices plummeted. In those years, real estate was considered an undesirable investment. Some bold investors were not intimidated by the grim market conditions and began acquiring foreclosed properties to rent out while they waited for the market to recover.
We owe thanks to those trailblazers who took a chance on a “risky” investment that many others were shying away from as property repossessions were sweeping the country. Brave investors brought activity back to an otherwise lifeless housing market and ultimately helped stabilize home values and propel the housing market’s recovery. They also provided affordable housing solutions for families recovering from the financial crisis. These investors realized the cash flow, low interest rates, and steady price appreciation were a profitable recipe.
The business model’s early success attracted the attention of more capital markets participants and large institutional investors who could aggregate a significant number of rental properties. Thus, from the ashes of the foreclosure crisis, the Single-Family Rental asset class emerged in 2012.
For the next ten years, the SFR market enjoyed steady growth, with an entire cottage industry of vendors, management companies and outsourcers sprouting up to support it. Big operators such as Invitation Homes, American Homes 4 Rent (now AMH), Tricon and others established a new standard of living for suburban renters with professionally managed properties and amenities.
The COVID-19 pandemic accelerated all the positive housing trends and drove even more demand for maintenance-free single-family living, igniting a boom in the SFR space. The market conditions through the pandemic solidified the SFR industry’s position as the “darling” of the real estate asset classes. The SFR industry continued to outperform expectations with a record number of securitizations, new market entrants, and expanding warehouse banking lines.
The picture became a little less rosy in 2022 when the Federal Reserve cranked up interest rates to tame runaway inflation.
The Current Market
Now that we have entered a slower period for the housing market, the explosive growth of SFRs has slowed with it. Investor activity is down due to the run-up in borrowing costs and cap rate constriction. Rent growth has also softened in recent months. Despite these pressures, the underlying fundamentals of the SFR market remain strong: Cash flow remains steady and valuations have normalized.
The major players continue to report strong financial results. AMH’s same-home average realized rent rose by 8% in 2022. At Tricon, same-home rent grew by 7.3% in January of this year with solid growth in new leases and renewals, and same-home occupancy holding steady at 97%. They are proving the SFR asset class is well designed to perform in adverse conditions.
There is still plenty of appetite from investors who are waiting patiently on the sidelines for conditions to stabilize. Once the market settles into a clear pattern, we can expect the growth of SFRs to resume. Analysts are currently debating what that sweet spot will be for homebuyers and investors to jump back into the market. A report by John Burns Research & Consulting found that 5.5% is the magic rate to reinvigorate the mortgage market. Even if we never see rates drop down to 3% again, if mortgage rates stabilize in the 5.5% range the market can adapt and begin to build a foundation for future growth.
While waiting for the market to establish a new trend, investors should take the opportunity to review their inventory, assess their risk, and make any necessary adjustments. That could mean reviewing and streamlining current in-house capabilities or talking with an experienced outsourcer. Partners who can deliver asset management technology, scalable full-service support, and access to a network of vendors will be valuable in this time to help investors manage their portfolios and potentially mitigate losses. An outsourcer with a nationwide footprint like the homegenius family of companies, and its affiliate Radian Real Estate Management LLC can help investors finetune and execute their SFR strategies in different markets across the country.
Overall, this is a moment to be cautiously optimistic. As inflation moderates, interest rates should also decline toward the 5.5% sweet spot. Home prices have fallen from their peak, which means there are new opportunities for investors to grow their portfolios. With affordability still an obstacle for many would-be homebuyers, the rental market will likely remain strong. And behind it are secular trends such as suburban migration and work-from-home arrangements that are relentlessly driving demand for SFR properties across the country.
It is far too early to write eulogies for the late great SFR market. The fundamentals of the market are too strong and vigorous. That is not to say there’s no risk. But this has never been a market for the risk averse.
Adversity is in its DNA, and that pioneering spirit is just what is needed now as the market regroups.
