Thread by @manoj033

The Single Family Rental (“SFR”) Gold Rush: An Institutional Thesis

Since the pandemic began, over $15B of equity has been raised by different institutions to invest into the SFR space.

A mega thread on why we might be entering a golden age of Institutional SFR Investing 👇👇

1) The Great Decoupling

A key reason why institutions like Blackrock are able to bid up home prices and buy 1000's of homes is that 'cap rate valuation' has decoupled from 'retail valuation'.

In other words, a large stabilized portfolio of cash flowing SFR is being valued much higher than the retail value of those individual homes (i.e. value if they were vacant & sold one-by-one to the owner occupant).

This decoupling has been facilitated by the capital markets. Large stabilized portfolios of cash flowing SFR are being valued at a 5 - 5.5% cap rate by the private markets. Currently, the largest REIT in this space, Invitation Homes ($INVH), is valued at a 4.2% implied cap rate.

Given this dynamic, institutions like Blackrock are able to access the Asset Backed Securitization (ABS) market to obtain extremely attractive 7-year I/O financing at rates anywhere between L+160bps & L+220bps.

2) Supply-Demand Imbalance

Currently, the supply demand dynamics in the SFR space is one of the most attractive in the real estate industry.

Let’s start with the supply issues first:

Single Family Home construction is in a rut, having fallen to its lowest level in 60 years.

The inventory of homes for sale has decreased by a whopping 75% since 2007: 4m homes in 2007 to 1m homes in 2021.

Months’ Supply of Houses is currently at ~2 months, which is 56% below the historical average of 5.8 months.

Two key reasons for the housing shortage:

a) homebuilder bankruptcies following the GFC

b) NIMBYish residents blocking construction projects at every opportunity

All this has led to a dynamic where housing remains severely undersupplied relative to new household formations.

Moving onto the demand side, the primary SFR demographic (35–44 age group) is expected to be one of the fastest growing cohorts within the US population (1.4% CAGR over next 5 years).

This is the same group of people that drove the multifamily industry boom over the past decade.

We have a maturing millennial population that is now in need of more space (3 & 4 bedroom units) as they begin forming households. Given only 11% of all multifamily unit stock represents 3 bedroom apartments, SFR living would be a natural transition for these folks.

Add to this equation the ever increasing home prices, declining home ownership rates & increased propensity to rent across age groups, and you've got yourself some explosive demand for SFR living.

3) Significant Tailwinds

According to Green Street, the revenue per available foot for SFR will outperform most property sectors over the next 5 years (CAGR 4%)

Case in point: The top 2 SFR REITs ($INVH & $AMH) experienced rent growth between 4% & 4.5% in 2020 with renewals ranging between 3% & 3.5% & re-leasing rates ranging between 5.5% & 8%

4) Asset Class Resiliency

Single Family Rent Growth has historically been more stable across economic cycles relative to multifamily. The resiliency is also showcased in the long term occupancy trends in SFR.

5) Super Fragmented Market

This sector is dominated by mom-&-pops and non-institutional owners.

Out of the 16M SFR units in the US ($4 Trillion in Size), less than 5% of the units are owned by institutions with the largest owner being Invitation Homes ($INVH) @ 80,000 homes.

To put that in context, institutional ownership in the multifamily space comprises 55%. So, we are still very much in the early innings of SFR institutionalization. And hence, the SFR Gold Rush you are seeing today.

There you go.

Putting it altogether, the major drivers causing institutions to flock to this asset class:

1) The Decoupling of retail valuation from cap rate valuation
2) Extreme Supply Demand Imbalance
3) Significant Tailwinds
4) Resiliency
5) Super Fragmented Market

Here's a snapshot of the institutions that have raised the $15 billion of JV equity for this space:

So, is this too much capital ? 🤷‍♂️

Given the TAM is $4 Trillion, even if you assumed that all $15 billion of equity raised since the pandemic went to building new SFR product (Build-to-Rent), it would still only translate to adding 0.5% of new supply to the overall SFR stock.

Finally, its important to note that almost all of the institutional activity in the SFR space is focused on the “Smile States” (AZ, TX, FL, NC, SC, GA). At the end of the day, it all boils down to land pricing which is key to making the SFR business model work.

For SFR investing to be viable, land pricing needs to be able support rental yields of 9-10% so that one could potentially get to a stabilized NOI yield of 5.5% - 6%. This assumes operating margins vary between 60 & 65% once you achieve scale (typically atleast 2000-3000 homes)

At today’s land values, such rental yields are almost impossible to achieve in the Northeast & West Coast markets. That is why you don’t see a lot of new institutional SFR activity in these places.

Stay tuned for a deep dive on SFR unit economics which I will post in a separate thread. How the capital markets view differences between SFR & Multifamily is a super interesting discussion

Scouring #ReTwit, I found a lot of the views by @EllliotttB on SFR to be quite on point.

🙏 Thanks for reading. If you enjoyed this, please quote tweet the first tweet & let me know your thoughts.

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I write about macro real estate themes & trends from an institutional perspective.