A decade ago, when the U.S. housing market collapsed and millions of homes went into foreclosure, a new class of real estate investors was born. Large-scale, institutional firms began buying up tens of thousands of properties. They rehabbed them and put them up for rent. Some said it was a short-term play; they'd sell the homes once property values recovered. And some did, but a decade later the firms that made the biggest bets are not only still in play, but expanding, and continuing to reap the rewards of a new rental boom. At the start, there were several players. Names like American Residential Properties, Colony American Homes, Starwood, Waypoint and Silver Bay. Now, after mass consolidation in the last few years, only the last two remain: American Homes 4 Rent and Invitation Homes. They are single-family rental REITs, and, along with Canada's Tricon Capital, which bought Silver Bay, they own and operate about 200,000 single-family rental homes across the nation. "The single-family rental market is very healthy right now. The demand versus supply balance and the operating outlook for revenue growth over these coming years is more favorable versus most property types," said John Pawlowski, an analyst at Green Street Advisors. "The operating backdrop for them is quite sound, and they're better at what they do today versus the early days of this sector, they're better operators, they have more refined systems."

A rough start

At the start, bringing this new asset class to a functioning operational scale was not easy. Unlike multi-unit apartment buildings, these companies owned homes in multiple neighborhoods across multiple housing markets. The vast majority were and continue to be in the South and West, where the foreclosure crisis hit hardest, but inventing a management scale was entirely new territory. "It is very scattered. One of the barriers to entry is just having the people, processes and systems in place that allow you to create an efficient business model," said Dallas Tanner, chief investment officer of Blackstone's Invitation Homes, the largest single-family rental REIT. "That took some time to develop and get right, but with time, we've certainly seasoned those processes, and provided an opportunity not only for long-term employment, but we've been able to capture an asset class that people want and they're looking for this quality of choice." Single-family rentals have been around forever, but most historically were and still are owned by small investors or so-called mom and pop landlords. These are people who might own a rental home in their neighborhood. They do all the maintenance, but they're only responsible for one or a few properties. Invitation Homes, a Blackstone company, began buying homes in 2012 and initially spent about $10 billion on a portfolio of 48,000 homes. It went public at the start of 2017, and now, after the acquisition of Starwood Waypoint last year, which had been the third largest single-family rental REIT, owns approximately 80,000 homes in 17 major markets, largely in Florida and the West. It has a 96 percent occupancy rate and continues to grow revenue, according to the company's latest earnings release for the second quarter. American Homes 4 Rent, now 5 years old, owns and operates just more than 52,000 homes with a 96.6 percent occupancy rate, according to its second-quarter financial report. Total revenue increased 11 percent to $522.5 million for the six-month period ended June 30, 2018, from $470.8 million for the six-month period ended June 30, 2017. While some in the housing market claim that these institutional investors are taking away much-needed housing stock from the for-sale market, they actually comprise less than 2 percent of the single-family rental homes available today. There are currently about 7 million single-family homes for rent, owned by smaller-scale, private investors.

Investors initially unimpressed

In the early days, the going was rough for some, as investors were not impressed with initial returns nor the longevity of these rental REITs. Early innovators, like Laurie Hawkes, who co-founded Arizona-based American Residential Properties and grew its portfolio to nearly 9,000 homes, saw tremendous potential in the long-term play. "This market went through in three years what it took multifamily 25 years to do. The ability to raise growth capital was the hardest thing to do," said Hawkes in an interview after her company's merger with American Homes 4 Rent in 2015. Blackstone's President and Chief Operating Officer, Jonathan Gray, who was global head of real estate at the time, never seemed to see the single-family rental market as a short-term play. "Our focus is let's perfect the model. Let's get a world-class management team. Let's have really clean simple metrics that the market can understand," Gray said in an interview with CNBC in July 2015. While this new public asset class is far from mature, it is continuing to expand and to profit, even as the fundamentals of the housing market change again. These companies were an outgrowth of a crisis, when home prices and the homeownership rate both saw record drops in a short period of time. Homeownership is now growing, and home prices, just six years after hitting bottom, are now higher than they were at their peak in 2006. Still, rental demand continues to be strong for both single- and multifamily units. "The way people are making choices today, there's somewhere between 60 and 65 million people between the ages of 20 and 35 that are delaying the decisions like homeownership, and choosing the opportunity to lease a home, or an apartment in a local neighborhood, delaying those decisions are impactful to our business model," said Tanner. But unlike in the multifamily space, single-family rental companies have the advantage of being able to move with the housing cycles, profiting both from their income and their assets. "Sometimes you have an asset that might be worth more in an end-user market than it would be in the rental space, and that's just a very easy thing for us. U.S. housing is one of the most liquid asset classes in the world, and it's a very easy thing for us to on the margin be selling and buying with our portfolio today," he said. Year to date, Invitation homes acquired 453 homes for $132.2 million, including estimated renovation costs, and sold 599 homes for gross proceeds of $132.0 million," according to company filings.

Affordable home shortage continues

The nation also continues to suffer from a shortage of affordable homes for sale, and while builders are increasing production, they are not focused on the low end of the market. High costs for land, labor and materials make the move-up and luxury markets far more profitable. That shortage will continue to fuel rental demand for the foreseeable future. But the rental market is not without risks ahead either. Investors purchased most of their properties out of foreclosure and did immediate renovations and repairs, but as the housing stock ages, those repairs will need to be made again. Invitation Homes reported costs for repairs and maintenance up nearly 20 percent compared to a year ago. "In a business that's only been around five years, nobody knows how these homes are going to age," said Pawlowski. "People understand how much wear and tear they put on their own homes, and how much money they put into it on a recurring basis, but we don't have the track record of the institutional single-family rental sector to opine with confidence on a long term capital expenditure burden of this asset category versus others."

Confidence in the sector grows

As the vintage of the homes increases, the capital burden will increase as well. But one thing improving with age is the confidence in the sector. The stocks underperformed initially but hit their stride in 2016. It was a shock to a lot of those following the sector, who thought that as home prices increased these REITs would sell off their homes and close up shop. "Operating performance, both occupancy, rental rate, and operating margins, all began clicking and proved to investors that these companies could operate this asset class more like an apartment company, and now it does look like a viable business, so yes we were surprised as well, and it seems to still have legs these next couple years," said Pawlowski. As for the future, the companies continue to buy, sell and test the asset class. American Homes 4 Rent had its first real test in Houston last year, when massive flooding from Hurricane Harvey damaged a large swath of its homes. The company moved in both personnel and mechanical resources from neighboring states, set up emergency call centers, and found temporary housing for tenants. "One of the benefits of the institutional single-family rental program is that we have an in-house maintenance team and a construction team, we're in many cities across the country and have the ability to mobilize all those forces," said David Singelyn, CEO of California-based American Homes 4 Rent, in an interview just after the disaster. "We planned prior to the hurricane hitting the city here in Houston. We were able to be in the city the second day with our crews and equipment that we sourced from other cities." Technology is the focus for both American Homes 4 Rent and Invitation Homes. Tanner said his company has spent more than $23 billion to date, outside of the original purchase price, improving homes. Going forward, upgrades will include smart home features and technology systems that younger buyers want. "Sixteen million customers in the U.S. today rent a single-family home, so it's our opportunity to enhance that experience, providing a suite of services that can be predictable, and that they can opt into over time," said Tanner. "One of the beautiful things about our business model is that our customers are choosing a leasing lifestyle."

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