Colony Capital LLC founder Tom Barrack is betting $1.5 billion that single-family homes caught in the U.S. “butcher factory” of foreclosures are the basis for a new class of real estate investment.
Colony, Blackstone Group LP, Starwood Capital Group LLC and Waypoint Real Estate Group LLC are among private equity funds paying cash for foreclosed homes to turn into rentals with an expectation that institutional financing will develop to enable them to boost their returns.
“In the banking sector there are 6.6 million single family homes that are in the butcher factory,” Barrack, who founded Colony in 1991 to buy distressed real estate, said at a Bloomberg Link Dealmakers Summit in New York yesterday. “It’s going to be another asset class.”
Demand for single-family rentals has grown as 4.5 million homes have been repossessed since January 2007, according to RealtyTrac Inc., and tightened lending standards and limited for-sale inventory keep first-time buyers out of the market. The asset class will expand just as real estate investment trusts for apartments have exploded since that industry’s birth in the early 1990s, Barrack said. While all REITs had a market value of just $5.6 billion in 1990, multifamily trusts are now a $71 billion industry.
“In 1990 we were buying multifamily loans, there were no multifamily REITs,” said Barrack, whose Santa Monica, California-based firm has $25 billion in assets under management. “You want to know how this is going to do, look at the multifamily REIT situation.”
He started Colony in 1991, acquiring a portfolio of distressed assets from the Resolution Trust Corp., which was charged with liquidating real estate-related assets from failed savings and loan associations caused by a real estate crash.
The U.S. homeownership rate was 65.5 percent in the quarter ending June 30, down from a June 2004 peak of 69.2 percent, according to the Census Bureau. Another 6 million current owners will lose their properties because they can’t afford the payments, Barrack said. About 1.8 million homes already owned by banks or expected to be repossessed by lenders aren’t yet listed for sale, according to a report yesterday by Zillow Inc.
Private equity firms have raised as much as $8 billion to buy as many as 80,000 single-family homes to manage as rentals, according to a Sept. 21 report by Keefe Bruyette & Woods Inc. They’re seeking to purchase properties before the recovery is in full swing.
Blackstone is buying $100 million of houses a week and has spent more than $1 billion through the middle of this month, Stephen Schwarzman, chairman of the largest private equity in distressed real estate, said during a Oct. 18 earnings call.
“This is the kind of thing that happens once -- every once in a while, where you see something that’s a market-turning trend and we are loading the boat,” Schwarzman said.
The New York-based investment firm, which has $205 billion in assets, said it has acquired about 7,000 single-family homes.
Colony’s single-family investments are producing net yields of 7 percent to 8 percent after expenses, according to Barrack.
“It’s not a flip play,” he said. “We are going to keep them.”
Colony, which has acquired 5,500 homes since April, expects to spend as much as $1.5 billion to purchase as many as 20,000 homes by the end of 2013, said Owen Blicksilver, an outside spokesman for Colony. Colony American Homes, which is a privately-traded REIT, has about 200 employees working in Arizona, California, Colorado, Florida, Georgia, Nevada and Texas.
Waypoint, which currently has about 2,500 rental homes, expects to increase its portfolio to 10,000 units worth about $1.5 billion by the end of 2013, according to Beth Haiken, spokeswoman for the Oakland, California-based firm. It’s focusing on Atlanta, Phoenix, Chicago, Southern California and Northern California, Haiken said.
In May and June, Starwood Property Trust Inc., the publicly-traded REIT controlled by Barry Sternlicht, acquired 252 foreclosed houses for $27.3 million, according to a regulatory filing.
Pending home sales rose 0.3 percent in September, the 17th consecutive monthly increase on a year-over-year basis, the National Association of Realtors reported yesterday.
About 11 million single-family homes are already occupied by renters, according to Scott Simon, the mortgage head at Newport Beach, California-based Pacific Investment Management Co., manager of the world’s largest bond fund.
“If you think that buy-to-rent has attracted about $8 billion of institutional money so far, $8 billion only buys 57,000 of $140,000 homes,” Simon said in an e-mail. “That’s a lot less than 11 million.”
Institutional investors in single-family rentals still need to prove they can scale up the business, operate scattered properties efficiently and exit their investments, Simon said. While Pimco expects the housing market to continue strengthening, it’s steering clear for now of buying single-family rentals, he said.
“So far, we have found better ways to express a similar bet,” Simon said.
While Citigroup Inc., Wells Fargo & Co., Bank of America Corp. and Deutsche Bank AG have explored debt and equity opportunities for single-family rentals, few deals have closed.
Citigroup extended a $245 million line of credit to Waypoint this month, enabling the Oakland, California-based investment firm to multiply its initial $150 million in capital from GI Partners, a Menlo Park, California-based private equity fund. American Residential Properties, which has 1,500 homes in five states, received a line of credit from Wells Fargo in June 2010.
“Banks are afraid of diving into lending to the institutional single-family owner-operator business, most likely because it is a business that is more complex than simply making a loan collateralized by a single-family house,” Laurie Hawkes, president of the Scottsdale, Arizona-based firm, said in an e-mail. “Securitization of single-family lease streams is on the drawing boards and structurally feasible but the timing is unknown. Early 2013? Perhaps.”
Some investors are gobbling up single-family homes like “a pie-eating contest,” which may lead to acquisitions that lose money or fail to achieve expected returns, Hawkes said.
“Unfortunately, if not operated cost efficiently there could be serious indigestion,” Hawkes said. “Buying right is important but operating right is critical.”
Rating debt with single-family rental homes as collateral is difficult because the industry is so new and lacks a track record, Fitch Ratings analysts wrote in an Oct. 23 note.
“Fitch is unlikely to assign a high investment-grade rating to such transactions,” the note by senior directors Suzanne Mistretta and Rob Rowan said.