A real estate play that captures the ongoing housing boom and hedges against rising rates

Published Fri, Mar 19 20211:40 PM EDT

An area of the housing market that's booming because of the pandemic-spurred revival of the suburbs may also be a place for investors to turn to amid recent fears of rising rates. Single-family rental REITs are publicly traded real estate companies that focus on providing single-family homes to Americans who want to rent, compared to own, a house. The securities benefit from the de-urbanization trend and they could be a hedge against rising mortgage rates as well. When interest rates rise like they are now, the housing market can often cool as fewer buyers get financing. REITs will often see weakness during times of rising rates because of the real estate market impact and because higher yields weaken the attractiveness of the group's payouts. But this part of the market could benefit in that environment as families flock to the single-family rental space because of the higher rates. "Single-family rental REITs have been one of the top-performing property sectors over the past year amid a COVID-driven suburban revival," said Alex Pettee, the president and director of research & ETFs at Hoya Capital Real Estate. "There's interest in these REITs because they are potential beneficiaries of these rising rates and rising expectations for growth and inflation." The U.S. housing industry continues to be one of the leaders of the early economic recovery from the pandemic, because of the low rates during the crisis. Mortgage rates jumped this week, however, with the average rate on a 30-year fixed mortgage up to 3.45% . Single-family rental REITS are a hot pocket of the real estate market with pure plays in companies like Invitation Homes and American Homes 4 Rent . Other public players like Tricon Residential and more recently Lennar have exposure to the sector. Since the 2010's were a period of substantial underbuilding, the largest cohort in the country — people around the age of 30 — are entering the housing market at an unprecedented time. Economists estimate the U.S. is underserved by a couple million homes in the past decade. This set the stage for major acceleration in home rentals. The new starter home A decade-long period of underbuilding has created a supply and affordability crisis for Americans with dreams of owning a home. This coupled with the Covid-19 pandemic facilitated a shift from "urban coastal" to sunbelt rental markets. Invitation Homes and American Homes 4 Rent houses are predominantly located in western and southeastern U.S. states. "In many ways the single family rental property has become the starter home," said Pettee. "The trends towards the suburbs was poised to play out but the pandemic kick started that." These securities also have an advantage over other REITS like multifamily companies as rising interest rates makes it less affordable for consumers to own homes. Plus, home price appreciation running too hot can sometimes be a headwind for owners, setting the stage for major outperformance in the companies that promote renting over owning a home. "This is a sector that has as strong of rent growth as pretty much any sector," added Pettee. The sector is even getting attention from legacy homebuilders. Lennar announced Wednesday a $4 billion single-family rental platform. "The vehicle's social focus provides a unique opportunity for families and individuals across the country to live in brand-new homes at an attainable price point, all without putting up a down payment. We have a distinct opportunity to create upward mobility in the housing market," Co-CEO and President of Lennar Rick Beckwitt said. Owning the REITs Invitation Homes is the biggest player in the single-family rental space in the U.S. The company, with a market valuation of about $17 billion, accounts for nearly 60% of the single-family rental sector. The shares were in the green this week and are up more than 6% this month, even with the rising rate concerns. Invitation Homes is up about 4% in 2021. While Invitation Homes is the biggest U.S. player, American Homes 4 Rent owns about 55,000 single-family rental units across the country. American Homes for rent, which has a market valuation about about $9.6 billion, owns homes primarily in the Sunbelt and Midwest. Am e rican Homes 4 Rent is up 8% this year. Analysts overwhelmingly say both have room to run. The average price target for Invitation Homes implies a more than 10% rally in the next 12-months, according to FactSet. American Homes 4 Rent is expected to gain about 5% in a year. Of the 18 analysts that cover Invitation Homes, 14 recommend buying the shares, according to FactSet. The other four have a hold rating. Nine of the 16 analysts that cover American Homes 4 Rent recommend buying the shares and the rest have a hold rating. "Demand for single-family rentals remains strong as individuals and families leave densely-populated urban environments to protect themselves from COVID-19," JMP analyst Aaron Hecht told clients after American Homes 4 Rent earnings. "We have not seen demand for SFR product on this scale since institutions began managing the product coming out of the Great Recession," added Hecht. Invitation Homes Invitation Homes went public in 2017 and now owns more than 80,000 homes, primarily in the Sunbelt region. The company, which was previously owned by private-equity firm Blackstone, purchased thousands of homes in the aftermath of the financial crisis. The New York-based buyout firm founded Invitation Homes with Arizona-based Treehouse Group and Riverstone Residential in 2012, several years after the housing market began crashing and it started buying foreclosed homes in bulk. Since then, the company has used property technology to keep its renters satisfied. In 16 markets across the country, Invitation Homes focuses on homes with attractive features like close proximity to jobs and access to good schools. Leasing growth for Invitation Homes grew 8.3% year-over-year in February and 7.3% in January, which is typically a slower leasing cycle, demonstrating the strong demand for rentals. "The fundamentals are excellent," Invitation Homes CEO Dallas Tanner said at the Citi Global Property CEO Conference last week. "Our occupancy continues to stay north of 98%, so while we continue to go out and capture that market rate growth, were getting the same reciprocal benefit on the renewal side." 2020 marked the first year ever that single-family rental REITS had higher net operating income margins than the multifamily REITS, according to Hoya Capital. "The fundamentals are as strong as any sector out there, period. Invitation Homes has had the best [net operating income] growth across multifamily and single family rentals since our IPO and we would expect more of the same. Scale and location matter and we have the best of both in the [single-family rental] space and we're intend on growing and adding to that portfolio," added Tanner. Tanner said two-thirds of renters are choosing the leasing lifestyle and could easily own a home. "We've got quiet a bit of conviction around the fact that being down payment light, having a company like ours who can take care of everything has actually got quite a bit of sex appeal to it for the consumer. We think we're going to see a lot more people that actually choose this way of life," said Tanner. Covid tailwinds The pandemic brought many new renters looking to get out of major cities to Invitation Homes, the CEO said. However, a year later, the millennial renters are staying, alongside the company's already-loyal renters. "These people want flexibility of choice. The ability to have a quality experience in a nice single-family home but not have the burdening nature of down payment or ownership implications, like maintenance and things like that, can be quite appealing to people," Tanner told CNBC last month. Even though supply is at all-time lows, Invitation Homes bought about 1,200 homes in the fourth quarter of 2020, because Tanner said the demand for new homes is there. Atlanta, Florida, Phoenix and Chicago are big growth stories for Invitation Homes. Plus, Invitation Homes hopes to capitalize on other trends the pandemic created like work-from-home. Since consumer are able to work remotely, many individuals are seeking out homes in cheaper markets with more space, said Tanner.

A home on Casaba Ave. in Canoga Park that Invitation Homes recently bought, fixed up and turned into a rental property.

Mel Melcon | Los Angeles Times | Getty Images

An area of the housing market that's booming because of the pandemic-spurred revival of the suburbs may also be a place for investors to turn to amid recent fears of rising rates.

Single-family rental REITs are publicly traded real estate companies that focus on providing single-family homes to Americans who want to rent, compared to own, a house.

The securities benefit from the de-urbanization trend and they could be a hedge against rising mortgage rates as well. When interest rates rise like they are now, the housing market can often cool as fewer buyers get financing. REITs will often see weakness during times of rising rates because of the real estate market impact and because higher yields weaken the attractiveness of the group's payouts.

But this part of the market could benefit in that environment as families flock to the single-family rental space because of the higher rates.