Video: Single-Family Rental Investing
The DI Wire’s publisher, Damon Elder, sat down with Brian Mitts, chief financial officer of NexPoint Real Estate Advisors, to discuss single-family rental investing, a relatively new entrant into the non-traded direct investment space, in the latest video from ADISA’s Focus on Alternatives, an educational series that covers key topics in alternative investing.
Mitts discusses what is driving the single-family rental investing boom and its surge in popularity in recent years as both large private equity firms and smaller firms alike continue to make significant investments in the space. He explains the differences between a “renter by choice” versus a “renter by necessity,” the prime markets for investments, the challenges and potential opportunities involved with property upkeep and maintenance, and the future of the space.
Video Transcript
Damon Elder 00:06
Welcome to another edition of Focus on Alternatives sponsored by ADISA, I’m Damon Elder, the publisher of The DI Wire.com. Today I’m joined by Brian Mitts, chief financial officer of NexPoint Real Estate Advisors. And we’re going to be speaking about a relatively new emergent asset class in the alternative space and that’s single-family rental housing. So, Brian the single-family rental space is an interesting one and it’s a relatively new entrant like I said to the alternative investment space. Following the Great Recession of 2008 2009 we saw a lot of large institutions come in and snap up really significant portfolios of single-family homes that had fallen into distress, some of them were spun off into public entities others were absorbed into other portfolios. So, in recent years we’ve begun to see private investors and private placement offerings come along that focus on these single-family homes. What is the intrinsic value to investors, why should retail investors care about single family homes what’s the proposition for them?
Brian Mitts 01:05
Yeah, I think the biggest driver of value and returns is the fact that there’s a huge shortage of housing coming out of the recession as you mentioned. A lot of the building stopped or decreased pretty significantly, so today we have a shortage of housing in the country. And so, I think being able to take these houses and lease them out to a lot of times renters by necessity they can’t afford a home. Is is a critical driver that’s you know great fundamental story I think is has produced great returns for investors and we think we’ll continue to do that for quite a while, because there’s no rules solution to this shortage that we see.
Damon Elder 01:52
How would you compare the typical returns of single-family rentals to investors and how do they compare to other types of asset classes?
Brian Mitts 02:00
So, I think at this point in the cycle we’re seeing a lot of cap rate compression, and returns or dropping quite a bit across real estate. But in single family rental that there’s still quite a bit of growth it’s still a very young Industry, and so there there’s a lot of consolidation that’s happening a lot of new capital that’s flowing in. So, I think you’re you’re seeing probably 2X the returns and single-family rental as you are some of the more established sectors like multifamily or or even storage which is having a kind of a banner year. But yeah, I think single family rental is done phenomenally well.
Damon Elder 02:44
Is now really a good entry point though considering the fact that you know the like we said earlier the big institutions came in and gobbled up a lot of this inventory post recession when these assets were really you know at their lowest probably value in recent times. And obviously during and post COVID if we’re at post COVID yet, we’ve really seen an uptick in in general generally speaking in valuations for these assets so is it still a good time for this type of investment?
Brian Mitts 03:09
Yeah, I think it is because although you’re seeing prices increase, you’re also seeing businesses mature, you’re getting better margins. So that the returns are still there and increasing with all the capital coming in the cost of capital is improving both for debt and equity. So, it’s a more competitive environment that it was certainly you know 12 years ago when the when the industry really got started but there’s still a lot of compelling fundamentals that are driving returns and and I think it is a great time to get in.
Damon Elder 03:43
So, we talked a little bit about you know it’s a nuanced strategy in some respects that you can target renters by choice or renters by necessity. You know what’s the difference to the two kinds of the subtle changes in investment strategy you know what are the benefits of you know perhaps targeting one over the other?
Brian Mitts 03:58
Yeah, so renter by necessity generally can’t afford a mortgage can’t afford the down payment can’t qualify for a mortgage, um that’s sort of a customer for life. Whereas a renter by choice is usually going to rent for convenience for whatever period of time but ultimately, we’ll become an owner. So, a little bit less sticky customer if you will for for that segment. But I think overall there’s just such a high demand for rental these days even amongst an age cohort that typically would have been an owner historically they’re they’re renting longer. So, it’s good for both but I think the renter by necessity is sort of there forever.
Damon Elder 04:44
Doesn’t targeting renters by necessity kind of bake in a little extra risk into your model, or you know how do you account for that, but I would think they’d be a little bit riskier than maybe those that would have choose rentals by choice?
Brian Mitts 04:56
Some would for sure, so you have to be careful in your tenant underwriting. But simply because they can’t qualify for mortgage doesn’t mean they’re high risk necessarily. I think a lot of them can’t afford the monthly rent but owning is oftentimes more expensive so the fact that they can’t qualify for a mortgage or own house doesn’t necessarily mean that they can’t afford the rent.
Damon Elder 05:20
I think all of us that own homes recognize the…
Brian Mitts 05:22
It’s more expensive than you think…
Damon Elder 05:23
Much more expensive to own home it’s not just the mortgage. So, let’s talk a little bit about other aspects of the strategy and talk about geography. So, what do you typically look for when you’re looking to purchase you know single family rentals, I assume you like to cluster them, but you know from a geographical perspective what are you really looking for?
Brian Mitts 05:41
Yeah, so just broadly speaking, you want to market that has some growth you don’t want outmigration for sure. Within the market itself what you’re looking for are houses and neighborhoods that are safe. So, there’s not high crime, generally you know good schools don’t have to be in grade school districts. But you want to find the the neighborhoods where you have adequate schools and that’s what families are looking for. And then you want a product that’s durable, every house needs maintenance components wear out you go to replace them. But as long as the foundation and and sort of the four walls if you will are solid that’s what you’re looking for. But I think in general that that’s the kind of overall which describes almost every market in this country it’s it’s you know to some degree. So that’s what’s so exciting about the business is there’s so much housing stock out there that can be bought and and turned into a rental property.
Damon Elder 06:41
I would imagine there are some really unique operational and property management challenges to this asset class obviously single-family homes being you know it’s not like a multifamily community where they’re all located right next to each other and you can hire professionals to maintain the day-to-day. I mean you know, how does that you know pose a challenge to this sort of investment?
Brian Mitts 07:00
Yeah, it’s not a coincidence that the proliferation of single-family rental is a business coincides with a improvement technology. Technology is the key to be able to get your arms around if you will a bunch of different assets. And like you said you know they they could be clustered together and in neighborhoods depending on where you’re buying, but not like they are in an apartment complex obviously. So, the scale there is very different. But you could still accomplish it with the technology and the technology has become a key. A lot of people have developed their own proprietary technology and house but there’s now a lot of fintech companies that are coming in and and taking that technology and improving on it, so the key is technology and that’s how you manage it.
Damon Elder 07:49
So, you aggregate these individual homes into a portfolio, what is the ultimate end play what’s the you know, how do you get out of the investment what’s the liquidity event you know what does that kind of look like what’s the time horizon?
Brian Mitts 08:02
Yeah, so today there’s only two publicly traded single family rental companies, that there’s another one that has other assets. But I I think that going into the public markets is the best way because then you have perpetual capital. And really these houses should cash flow forever. So that there’s not necessarily a reason to sell them, and unless you’re just looking to rotate out of a market into a different market or recycle capital for that reason. But there’s really no reason to sell the entire portfolio unless the the returns are just that that appealing. So, I think that the way you do it is you you go into the public markets you get a good cost of capital, and you keep those assets forever.
Damon Elder 08:46
And then you do start another private fund and do it over again or?
Brian Mitts 08:49
Sure, that’s what we do.
Damon Elder 08:51
Well, it’s interesting though I mean again this is fairly new to the non-traded private space. But and there’s only a couple of players out there right now obviously our NexPoint’s got it’s It’s offering with Vinebrook and whatnot and then one or two others but it’s it seems to me like there’s a lot of interest there. So, I mean what is the time horizon like is this going to be a new class of asset type that with the private markets are going to see for you know the future?
Brian Mitts 09:15
I think so because there there’s a lot of capital coming into space. And so, I think the retail capital tends to be attracted to where the institutional capital is going. And there’s a a ton of debt capital which in real estate is important and so you’re able to borrow at very attractive rates in single family rental. And it it doesn’t really seem like that’s gonna change in the near term. Yeah, we’re clearly at the top of a cycle we were before COVID, and now it’s it’s kind of you know with the stimulus been increased into by far the longest growth period in the US economy so at some point it’s going to turn. But I think because of all the fundamentals with housing and the shortage of housing and the demand for housing that single family rental is going to come through it pretty well. And we saw that during COVID but there wasn’t a lot of bad debt like you would have thought. I think collections were generally very strong across the sector as we’re occupancies.
Damon Elder 10:17
Yeah, I mean we definitely seen that across multifamily and you know the single-family space. So, you know it’s it’s often said that individual retail investors really like to invest in things they understand. Obviously, you know a lot of accredited investors the vast majority I’m sure are all homeowners, maybe even invest individually in single family rentals. Is that what you’re finding, do you find that investors are finding an ease of opportunity here by you know obviously understanding being a homeowner and appreciating the asset class are we going to see growth because of that?
Brian Mitts 10:46
I think that definitely helps because you’re right they they they like to invest in what they can understand. And being a homeowner isn’t necessarily the same as owning a home and and renting it for for profit, but in general they they do understand the the basics of that. And so, I think it does make for an easy investment decision. And then I think just the fundamentals behind it make it incredibly appealing, so you know that there’s a lot of things kind of coming together that make it very attractive investment that’s um…
Damon Elder 11:14
And the horizon is a long one?
Brian Mitts 11:16
I think it’s 10 years plus
Damon Elder 11:17
Oh, ok great.
Brian Mitts 11:18
Yeah
Damon Elder 11:19
So, we’re going to see a lot more on the FSR space then.
Brian Mitts 11:21
I think so
Damon Elder 11:22
Alright, Brian thanks for joining us today, and thank you for watching. For more information regarding all things alternative investment please visit www.adisa.org thanks again
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