The dealmakers running America’s private equity firms see opportunity in one of the most distressed precincts of the U.S. economy: residential housing. The New York-based real estate buyout fund GTIS Partners will spend $1 billion by 2016 acquiring single-family homes to manage as rentals, founder Tom Shapiro said on Jan. 24. That followed announcements earlier in January that GI Partners, a Menlo Park (Calif.) private equity fund, expects to invest $1 billion and Los Angeles-based Oaktree Capital Management will spend $450 million on similar housing deals. “We are starting to see this as a billion-dollar opportunity,” says Shapiro.
Why the enthusiasm? For starters, the U.S. government is eager to clear out the foreclosed properties now on its books. The Federal Reserve, in a study released in January, urged the government to explore ways to reduce the glut of bank-owned homes, including by selling them to investors to rent out. On Feb. 1, Fannie Mae, the government-controlled mortgage agency, extended the first invitation to investors to apply for joint ventures to buy bulk foreclosed homes and manage them as rentals. The Obama Administration hopes to market some of the 210,000 homes repossessed by Fannie Mae, Freddie Mac, and the Federal Housing Administration, which insures mortgages, during the first quarter of 2012.
Cerberus Capital Management, Deutsche Bank, Fortress Investment Group, and Starwood Capital Group are among the potential investors that responded to an Administration request in September for proposals on how to dispose of the government’s inventory of foreclosed homes, according to a list obtained by Bloomberg through a Freedom of Information Act filing.
Some would-be investors are dubious. Ken Hackel, in charge of securitized products strategy for Stamford (Conn.)-based research and brokerage firm CRT Capital Group, says investors should be cautious about buying properties in markets such as Las Vegas, where a transient population and an economy dependent on a single industry might make it hard to recoup their money. “For the kind of properties I looked at—and in most cases—capital markets aren’t excited to finance” deals to buy foreclosed properties and rent them out, he says. Moreover, investors need to do more than make the math work, says Shapiro: They will have to deal with the rather unglamorous responsibilities of finding tenants and maintaining properties. “We think the important thing is on the operations and management side, as opposed to playing a numbers game,” he says. “The key is being able to efficiently manage these homes.”
Even so, low prices and high demand for rentals make the market intriguing. The U.S. homeownership rate fell to 66 percent at the end of 2011, from 66.3 percent in the third quarter, the Census Bureau said on Jan. 31. It peaked at 69.2 percent in June 2004. “The share of Americans who are willing and able to own their own home is still falling,” Paul Diggle, an economist with Capital Economics in London said in a Feb. 1 note. “The flipside is more households in the rented sector and fewer properties lacking tenants. This is helping to drive rents, and therefore landlords’ returns, higher.”
Single-family home rentals can generate cash flows that are 3 percentage points higher than apartments, says Gregor Watson of McKinley Capital Partners in Oakland, Calif., which has spent $100 million in the past two years on more than 400 foreclosed homes in Western cities. “This will be a new institutional asset class in the next 24 months,” he says.
About 7.5 million homes with a market value of $1 trillion will be liquidated through foreclosures or other distressed sales by 2016, according to a 2011 report by Oliver Chang, a Morgan Stanley analyst. That will add to the estimated 20 million single-family homes already serving as rentals, which have yielded annual returns averaging 8.1 percent since 1990, Chang concluded.
Shapiro says his firm expects to buy homes in bulk from banks, Fannie Mae, and Freddie Mac. To focus its operations, GTIS will concentrate on Nevada, Arizona, and California—states with the three highest foreclosure rates—and Florida. GTIS expects to hold its homes about five years, waiting for housing prices to recover before selling, Shapiro says: “Our intention is to rent them, to hold them for the long term.”