Record rent increases and a rosy growth outlook have helped boost the appeal of US single-family rental (SFR) housing with institutional investors, while demographic trends, diversification advantages and rising interest rates are providing tailwinds for the sector.
Single-family rentals have enjoyed a steady stream of record rent increases. Rents for US SFR properties rose 12.6 percent in January, which was the largest year-on-year increase in more than 17 years, according to the CoreLogic Single-Family Rent Index.
January also marked 10 straight months of record rent growth for SFR properties. The increase was three times as large as the January 2021 year-on-year increase, and four times the January 2020 increase.
SFR is still a fairly new asset class for institutional investors. With roughly 3 percent of the 16 million SFR units in the US owned by institutional investors, there is significant opportunity for investment expansion of SFR markets, says Anthony Cazazian, head of US residential real estate for Man Global Private Markets.
“It’s a highly fragmented young asset class from an institutional ownership perspective, akin to multifamily decades ago,” Cazazian says. “We think we have a lot of opportunity and a long road ahead of us.”
Large institutional investors once perceived SFR properties as too difficult to manage over a large, scattered portfolio, especially when compared with the relative ease of potentially managing several hundred units of multifamily in a single building, notes Nishu Sood, head of real estate research at Pretium Partners. At that point in time, there were questions about whether owning SFR on a large scale – 10,000 units or more – could be profitable because of the property management issues.
But that perception changed with technology improvements and the evolution of large-scale management practices for communicating with tenants and executing lease renewals, performing repairs, standardizing renovations and identifying good properties in areas of high demand. “What has been proven out over the past decade is that it is possible to effectively manage assets that are scattered across an area, and to do it well,” Sood says. “That’s really the change in the industry in recent years.”
SFR has also improved its appeal to institutional investors by showing resiliency in recent years, with occupancy and demand trends for SFR remaining steady even through covid-19, Sood adds.
Housing demand was strong entering the pandemic, and SFR gained strength during that time, Sood says. Even with the Fed interest rate hike earlier in May – its largest since 2000 – SFR demand has remained resilient.
“What has been proven out over the past decade is that it is possible to effectively manage assets that are scattered across an area, and to do it well”
“Going forward, I foresee that the demand for single-family homes in particular is going to remain strong; I don’t think this was just a temporary phenomenon,” Sood says.
US housing is the largest and most liquid real estate asset class in the world, and institutional investors that wanted direct exposure to rental properties had historically put 100 percent of that exposure with multifamily households, Cazazian says.
But today, with a track record of returns for more than a decade, SFR is viewed almost as a core real estate sector.
“Institutions realize they should really be diversifying their exposure across both single-family and multifamily – something that is more representative of the US housing market as a whole,” Cazazian says.
For investors, SFR tends to offer diversification with larger homes, more suburban properties, higher monthly rents, slightly higher occupancy rates, more married couples, and more couples with children or pets than with multifamily properties, Cazazian says.
Rent growth and home price appreciation has been similar in SFR and multifamily over the last 30 years. But SFR historically has outperformed multifamily during economic downturns in rent growth, with SFR enjoying “stickier” tenants who stay longer, Cazazian says. Generally, multifamily turnover is around 50 percent per year, compared with 25-33 percent for SFR.
Other growth drivers
Traditionally, home ownership has been the primary way for households to access single-family housing. In the mid-2000s, for example, home prices rose as the housing demand surge led to an increase in home purchases, but rents did not move much. Now, demand has increased and there is a shortage of supply across all housing – for purchased homes, multifamily and SFR. As professional management of SFR properties increases and as renovated rentals make up a larger part of SFR, growth will continue in the space, Sood predicts.
Demographics also favor SFR housing growth as millennials reach their early 30s, when households typically begin to favor single-family housing.
“You have the largest age groups in the US, generally represented by the millennial generation, who are coming of age and entering life’s major milestone years and getting married, having children and needing more space,” Cazazian says. “When you need more space in the US, you’re typically looking for a single-family home, whether as an owner or as a renter.”
Rising interest rates will push the cost of home ownership higher through higher mortgage rates, leading to increasing demand and increasing rents in both SFR and multifamily. “It’s hard not to have some shifting of demand towards rentals if 30-year mortgage rates have gone up more than 200 basis points, as they have,” Sood says.
SFR does well as an inflation hedge for investors because its leases reset every one to two years, plus home prices and rents have equaled or outpaced inflation over the last 30 years, Cazazian says.
Rising interest rates have started to have an impact across real estate sectors, with some of the demand and cap rates starting to soften in certain markets for certain assets, with lower valuations reflecting higher financing costs, he adds.
Trends to watch
According to Pretium, the SFR stock shrunk by 700,000 units over the four or five years to 2021. To address that historically low SFR inventory, more build-to-rent projects are moving ahead – that is, construction of single-family homes for rentals. Building new SFR inventory also opens opportunities for investing in energy efficient, sustainable, net-zero-carbon-emissions projects, Cazazian says.
Securitization is another area to watch, because of the Fed rate hike.
“The rapid rise in rates recently has impacted the securitization market very quickly and dramatically, and that is going to have a pretty meaningful impact on where some of the largest SFR operators acquire these portfolios,” Cazazian says.
Cost of debt for the latest securitizations has been around 5 percent, compared to about 2 percent or 2.5 percent for securitizations in 2021. “That’s a massive shift,” Cazazian says.