Between July 2006 and mid-2012, US residential real estate experienced its deepest nationwide crisis on record. Although it has since recovered, the fallout from the crisis is still throwing up opportunities for disciplined investors with the processes.
The US housing market represents one of the largest asset classes in the world, with an estimated value of USD28 trillion3. Whilst a major part of the market remains ‘owner-occupied’, there are currently 15.7 million investor owned SFR rentals with total capital value well in excess of USD2 trillion4. The SFR category grew substantially in the wake of the Global Financial Crisis (‘GFC’) as home ownership declined. The total is now not far from the estimated 17.9 million multi-family rentals.
In general, we believe that US SFR could offer investors long-term, stable and diversified income with low price volatility relative to the wider market. We think that current valuations remain attractive relative to other US real estate markets (e.g. offices and multi-family residential). Whilst these other segments have enjoyed notable rebounds since their crisis nadirs, SFR has still not overtaken its pre-crash peak, as demonstrated in figure 1. We believe that SFR now has the potential to enjoy a similar rise, for a variety of reasons which we will later outline. For investors allocating new money to US real estate, therefore, the relative valuation of SFR could be compelling.
We also think that the market composition of US SFR is reaching a very interesting point. The space has traditionally been dominated by small investors and individuals, but in recent years there has been greater involvement from institutional players. We think that this has allowed for best practices to be developed, whilst transparency, cost management, investor returns and liquidity have improved. This is particularly important when dealing with SFR portfolios which, by their nature, involve managing a highly diversified asset base across several metropolitan areas.
In terms of outlook, we think that this trend of institutionalization has a lot further to run. Invitation Homes, a REIT managed by Blackstone, is the biggest investor in US SFR, controlling 50,000 units, which equates to little more than 0.3% of the available stock.5 This demonstrates to us how fragmented the space still is, and how much headroom remains for further institutionalization. As this happens we believe the sector will become an even more attractive place to invest. In the meantime we view it as being to the advantage of investors such as Aalto to be operating in a fragmented market of smaller competitors.
Figure 1. US housing market recovery lags commercial real estate6
We believe that the fundamentals relating to future demand in the US SFR space remain strong due to:
- Mortgage availability for homebuyers remaining constrained, as much as 80% below peak7 by some estimates. According to one survey, 67% of consumers believe it to be difficult to obtain a mortgage despite low interest rates8. We believe that we are nearing a turning point in this trend. Many Americans who had adverse credit history (e.g. foreclosure or a short-sale during the GFC) are slowly reaching the stage where their credit scores are improving and this could feed through into greater demand for mortgages and owner-occupied housing units. We doubt that the mortgage market will again reach its heady pre-crisis levels, but even a mild increase may have a significant positive impact, given the lows to which the market has sunk
- US household balance sheets materially deleveraging since they hit peak debt in 2008. Today both household-debt-to-GDP, and household-debt-to-disposable-income are back to the lows of the early 2000s9. This has left the US in a position where household leverage is now below most other large economies (see figure 2). This gives potential headroom for re-leveraging which in turn could fuel an increased in demand if mortgage availability expands (see above)
- Affordability (as measured by price-to-household-income) remains attractive in many sub-markets in our view
- The unemployment rate in the US has fallen to 4.6% from the 10% peak it hit in December 2010. Simultaneously job openings are at all-time highs10
- Average real wage growth has continued to accelerate, potentially giving consumers a greater ability to absorb higher rents in the future
Figure 2. US household debt has fallen significantly since 20089
1. Case Schiller 20 city house price index. 2. Green Street Advisors CPPI Sector Indices. 3. Zillow year end 2015 for all residential assets (including single family and multi-family). 4. Calculated as USD183,000 average SFR price (Zillow year end 2015) multiplied by 15.7m number of SFR houses (Green Street Advisors, 6 June 2016). 5. Company reports as at December 2016. 6. Green Street Advisors CPPI Sector Indices, Case Schiller. 7. Mortgage Bankers Association. 8. New York Federal Reserve’s annual SCE Housing Survey. 9. OECD. 10. Bloomberg and Bureau of Labor Statistics, November 2016.