Supercharged last year by the pandemic, the single-family rental (SFR) sector has become one of the top investment opportunities in commercial real estate. Investors that have traditionally built their portfolios around other property sectors like office, hotel, and retail are transitioning to the (SFR) market because performance metrics are so strong. The economic and demographic factors that helped grow the sector will continue to strengthen it moving forward.
Pre-Pandemic
SFR housing has been quietly growing at a rapid pace since the end of the Great Recession. In fact, since that time, the SFR sector has been the fastest growing segment of the U.S. rental market.[1] In the years following the Great Recession, the SFR market’s growth was driven primarily by economic factors. Home foreclosures and short sales, extremely tight credit markets, high debt burdens, a tight job market, and the inability to save for a down payment kept many potential home buyers out of the market. While many middle-class renters could not buy a home, they earned enough money to afford a rental home. For example, Matt Blank, Principal at build-to-rent developer BB Living, described the average renter at their communities as a married couple in their late 30’s with two children and an annual income of $80,000 to $110,000.[2] This was sufficient cash flow to afford the slightly higher monthly rent on a single-family rental home.
Another important driver was a shift in attitudes about home ownership. According to RealtyTrac, there were more than 6.3 million foreclosures in the 10 years between January, 2006 and April, 2016, a 152% increase over average foreclosure rates. As noted by Daren Blomquist, Senior Vice President of RealtyTrac, “These last 10 years (2006-2016) represented the biggest loss of home ownership and shifting of real estate wealth since the Great Depression.”[3] That experience made millions of previous homeowners and potential homeowners reassess the dream of owning a home. Families were moving much more for jobs and became less concerned about buying a home to live in for the next 30 years. Spending on “experiences” became more important than paying a mortgage. The result? Since 2009, home ownership has declined by 3.6 million while the number of renters grew by 1.9 million.[4] With the availability of single-family rental homes, renting instead of buying was an attractive alternative, providing the best of both worlds — the convenience of living in a single-family home with the flexibility and portability of a lease.
Post Pandemic
The pandemic put the growing trajectory of the SFR sector into overdrive. Activity and travel restrictions, social distancing mandates, and shelter-in-place orders in major metropolitan areas all drove renters out to adjacent suburban markets and smaller metros in search of more space. Demand for living quarters larger than most urban apartments developed out of the need for space for remote working and schooling. At the same time, home prices were rapidly increasing due to the lowest interest rates in history, making homebuying difficult for many moderate-income families. These factors created the perfect storm, driving SFR occupancy to its highest rate since 1994, as shown below:
Even before the pandemic, the SFR market enjoyed lower vacancy rates than the traditional multifamily market, as SFR units tend to turnover less frequently due to the demographics of a typical SFR renter.
The record high SFR occupancy rates have pushed monthly rent growth to new highs as well. In July of this year, SFR year-over-year rent growth jumped 8.5%, the fastest year-over-year increase since CoreLogic began the Single-Family Rent Index in 2004. The July increase was five times the July 2020 increase of 1.7%. As shown below, SFR rent growth is now running well above pre-pandemic rates.
And specific SFR markets around the country are enjoying double-digit rent growth.
What’s Next for the SFR Market
The SFR market has been around for at least four decades but it has established itself as a top asset class over the past decade. Changing attitudes about owning versus renting that were developing before the pandemic were intensified by the realities of the pandemic. With housing prices continuing to climb faster than household income, the SFR option is becoming the preferred long-term housing solution for families looking for more bedrooms, more living space, and amenities such as yards and garages. Many SFR tenants prefer the lifestyle, convenience, and flexibility of SFR living over home ownership while a sizable number of tenants simply want to downsize and transition out of homeownership.
The strength of SFR fundamentals has piqued the interest of CRE investors, developers, and institutional money. Record demand is leading to declining cap rates and surging rent growth. As demonstrated in the above graphs, as of the second quarter this year, SFR vacancy was 150 basis points lower than multifamily vacancy while SFR monthly average rent growth outpaced multifamily rent growth for the past 17 months. According to Chandan Economics, the second quarter cap rates averaged 5.8%, down 81 basis points from a year earlier and the lowest cap rates since it began tracking the sector in 2011.
The asset class has matured to the point that institutional capital is now investing into the market for the development of build-to-rent (BTR) communities of SFR homes. According to Trepp, CMBS issuance in the SFR sector hit $8.3 billion in 2020, double the amount issued in 2019. Close to $12 billion is projected for this year.
Large BTR communities are projected to be the fastest growing residential market segment over the next several years. With home prices continuing to rise much faster than household income, the BTR alternative is becoming a more permanent solution to the housing crisis. These BTR properties are most like highly amenitized, gated residential communities without the burden of mortgage or HOA payments. The BTR market has already established its ability to achieve market rate premiums over Class A multifamily while experiencing much less turnover.
The entry into the BTR market by regional and national builders demonstrates the strength and viability of the BTR product and the SFR asset class. For example, Crescent Communities and Pretium have formed a joint venture to invest $1 billion in new BTR communities across 14 markets. Private equity firms such as Invitation Homes (REIT), Starwood Capital, Blackstone, and Colony Capital have started acquiring huge portfolios of SFRs. Many home builders, struggling to build enough for-sale homes at entry level pricing to make a profit, are now transitioning, in whole or in part, to the BTR product. Taylor Morrison Home Corp., the nation’s fifth-largest builder, has said that BTR could soon become 50% of its total business. And Toll Brothers, Lennar, LGI, Meritage, and D.R. Horton are all entering the market this year and next.
Perhaps the best indicator of the strength and profitably of the BTR/SFR asset class is the move of multifamily players into the market. At the Multifamily Executive Conference in October of last year, both Mill Creek Residential, which ranked no. 8 on the National Multifamily Housing Council’s top builders list and no. 6 on the top developers list in 2020, and Continental Properties, no. 15 on the top developers list, said they would be entering the single-family BTR market this year.
The factors that ignited the SFR market are also fueling BTR growth. The impressive fundamentals and growth of this asset class show no signs of slowing. Investors and capital sources from other commercial property sectors will continue to move into the SFR market because the market has established its longevity and fundamentals are so strong. Given the nationwide undersupply of affordable housing, expect demand for the SFR product to continue driving high occupancy, growing rental rates, and solid returns for the foreseeable future.
Contact
GARY BARAGONA
Director of Research
415.229.8925
gary.baragona@kidder.com
Written by John Fioramonti
Senior Business Writer
Kidder Mathews Research
Sources
1DBRS Morningstar, “Multifamily and Single-family Rentals to Continue Outpacing the Rest of the U.S. Housing Market,” June 14, 2021
2Multifamily Executive, “Linear Living: The Rise of Single-Family Rentals” January, 2018
3MarketWatch, “There Have Been 6.3 Million Foreclosures in the U.S. in the Last Decade” May, 2016
4Roofstock, “Why Single-Family Rentals Will Still have Strong Demand in 2021,” Updated September, 2021
5CoreLogic, “Single-Family Rent Growth Hits 16.5-Year High” September, 2021