Investors Aggregate Single-Family Home Portfolios For Rentals

By Sharon Simonson

Two Bay Area companies are trying to amass large portfolios of single-family homes as part of a national thrust by multiple players to create the next class of institutional real estate–a professionally managed rental pool of family housing.

Oakland-based Waypoint Real Estate Group has acquired 1,500 homes mostly in California and is looking to invest $1 billion in equity and debt by the beginning of 2015. Based on an average cost of $100,000 a home, that equates to 10,000 units nationwide.

James Breitenstein, left, chief executive and fund manager of San Francisco’s LandSmith LP, said he expects to aggregate homes in Southern California, Nevada, Arizona and Florida. He began buying in Phoenix 18 months ago, and the company now owns 250 homes in the Phoenix area. “The average property we bought last year [in Phoenix], we paid $65,000 and put in $6,000 of renovation, and we are getting a 12 percent return,” he said.

Waypoint began buying in mid-2009 in Bay Area communities such as Antioch, Vallejo and Pittsburg. It is now expanding to Phoenix and targeting Atlanta and Chicago next. We are witnessing “the birth of an enormous industry,” Colin Wiel, Waypoint co-founder and managing director, told the 17th Annual Fisher Center conference in San Francisco late last month. “The pace at which it is emerging and the potential size remind me of the PC industry in the mid-1980s.”

The company gained backing earlier this year from Rick Magnuson’s GI Partners in Menlo Park. Magnuson is one of the mastermind founders behind San Francisco real estate investment trust Digital Realty Trust Inc., which now builds data centers globally and has 19 million square feet of space.

[pullquote_left]Pictured: A Waypoint Homes rental currently available in Oakley with five bedrooms and three baths for $2,599 a month.[/pullquote_left]LandSmith has focused on residential development since 1995, Breitenstein said. He turned to the distressed housing market in 2008, raising $15 million in equity with the intent of buying single-family lots at a discount. After buying several thousand, he turned to the distressed housing market. He is trying to raise another $100 million in equity capital and is getting interest from institutional investors with a social mission. He estimates that will be enough capital to buy a thousand homes.

He is targeting distressed areas that have good recovery prospects including parts of Detroit, Atlanta and Fort Myers and Orlando, Fla. His goal is sell the portfolio in four or five years in a public offering to be operated as a real estate investment trust.

He does not expect to buy in the Bay Area—though he does expect to raise capital here. “The Bay Area has always been strong on appreciation. A lot of investors want to see current income as a measure of future yield,” he said.

Oliver Chang, head of U.S. housing strategy for Morgan Stanley also speaking at the Fisher Center conference, said the global financial services firm sees opportunity in the space, but success depends on managing well. “Turnover, rehab costs, timing of the rehab each year. Your changes in yields can be measured in points, not just basis points, depending on your operational ability,” he said.

Those pursuing the strategy argue that the opportunity is large—large enough for the many players that have expressed an interest in the business and more. Morgan Stanley estimates that over the next five years, more than eight million U.S. homes will pass through foreclosure, short sale or some other distressed disposition. But credit is so tight that average people won’t be able to take advantage. “Of the top 25 MSAs, all of them have their share of delinquent inventory. So the opportunity to buy distressed single-family homes is across the country,” Chang said.

By Morgan Stanley’s calculus, the U.S. homeownership rate has fallen below 60 percent, its lowest reading since the statistic has been tracked beginning in the 1960s. That is from a high of nearly 70 percent at the peak of the housing boom.

“We estimate there are eight to 12 million households that used to own but now need to rent, so there is a massive transition from homeownership to rentership,” said Justin Chang, a principal at Santa Monica-based Colony Capital LLC, a private real estate investment firm. “The multifamily sector will pick up some of that, but we think five million or 10 million” of those households will choose to rent single-family homes.

Chang is leading Colony’s initiative under a new management company, Colony American Homes. Colony expects to deploy $1 billion or more over the next two years in anticipation of creating a publicly traded REIT at the end of that time. By December, it hopes to own as many as 7,000 homes and within 18 months, it wants to own 10,000. It began buying in April.

The fundamental thrust across the emerging platforms is to professionalize with better management and maintenance what has been historically a mom-and-pop business. The sophisticated information technology including cloud computing and mobile applications available today at prices that have declined dramatically in the last decade is at the core of that professionalization for Waypoint’s operation, Wiel said.

Wiel likens today’s evolution to the consolidation that occurred in convenience stores with the rise of 7-Eleven Inc. and with coffee shops and Starbucks Corp. Colony’s Chang said that ownership of apartments, shopping centers and offices consolidated and professionalized as publicly traded REITs emerged as mainstream investment vehicles over the last three decades. In early May, Atlanta-based Beazer Homes USA Inc. said it had contributed nearly 200 homes worth $20 million in Phoenix and Las Vegas to a newly formed real estate investment trust. The company “is one of the first REITs focused exclusively on the single family home rental market,” the company said in a prepared statement.

“We never had a way for institutional investors to buy these homes, and these big owners of public REIT stocks are telling us, ‘We would like for you to create single-family REITs because we want to have a way to deploy capital.’ When we hear that, it underscores our conviction,” Colony’s Chang said.

Public investors could expect current cash yields of about 7 percent falling to 5 percent or 6 percent as home values appreciate, and it becomes harder to buy at the deep discounts now available, he said.

Renters would be families looking for good school districts, probably in the suburbs. Apartments would still dominate in urban settings, Morgan Stanley’s Chang opined.

The obvious question—is this a short-lived opportunity or a long-term business proposition—at some level is impossible to answer. Proponents—like their counterparts in the multifamily sector—argue that the American love affair with homeownership is giving way to a new perspective especially among the young that accepts renting as a long-term possibility.

“It is the emergence of corporate-owned single-family housing. It’s a new option that didn’t exist before, so the desire to be a homeowner will be affected by that,” Morgan Stanley’s Chang said. “People refer to this as a new asset class. It’s not. It’s just not been institutionally held.”