Research Report Category: Single-Family Rental Investment Trends

PDF link below

State of the Market

If there is any corner of the U.S. housing market that is still maintaining the momentum of the past few years, it’s the single-family rental (SFR) sector.

Broadly, the single-family housing market has reached an inflection. The 30-year fixed rate mortgage averaged 5.6% in the third quarter of 2022 and then accelerated to eclipse 7.0% in October for the first time since 2002. Rising capital costs for potential homeowners have curtailed buying activity and diminished market pricing. In their October 2022 forecast, Fannie Mae predicted that home prices will fall 1.5%
next year.

Within the SFR sector, the overall slowdown likely means a mixed bag of outcomes. On the one hand, SFR asset prices operate within the entire single-family housing ecosystem, meaning any deterioration in the overall housing market will negatively impact SFR valuations. On the other hand, SFR will likely benefit from being well-positioned as a primary alternative for would-be homeowners who have been priced out in the current high-interest-rate housing market.

In the CMBS market, SFR issuance remains active, though the pace of new issuance has slowed since 2021. According to Finsight, SFR CMBS issuance has totaled $10.2 billion through the third quarter of 2022 (Chart 1). At its current pace, SFR CMBS deal activity would finish the year 17.7% below 2021’s record $16.6 billion.

While the housing market sits on shaky ground, the SFR sector has a secure foundation. Several indicators continue to point in a positive direction for SFR. The sector’s share of total construction activity has reached new heights and renewal rent growth is still picking up. At the same time, lenders have started to adjust risk pricing through higher debt yields, while equity investors have yet to meaningfully change their cap rate targets — a possible sign that an adjustment period is on the horizon. All else remaining equal, SFR will have some exposure to changing housing market conditions, though the sector is countercyclically balanced as financial obstacles to homeownership often transfer housing demand to rental units.

Performance Metrics

Originations

Loans for purchasing, not refinancing, accounted for a majority (50.7%) of originations to single-family investors in 2022 for the first time since 2018, according to Fannie Mae (Chart 2).

The immediate cause of the market shift is the Federal Reserve’s monetary tightening cycle. On November 2, the Fed moved up its benchmark Federal Funds rate by 75 bps for the fourth consecutive meeting in a row. The impact of the Fed’s tightening cycle on interest rates has been dramatic. Mortgage interest rates, which started 2022 just above 3%, have now climbed above 7%.

The significant rise in mortgage borrowing costs has meant that fewer existing SFR owners would benefit from refinancing their existing mortgages. Term/rate refinancings, which accounted for 47.3% and 41.2% of originations in 2020 and 2021, respectively, have fallen to 14.2% in 2022. Meanwhile, cash-out refinancings have continued to hold up this year, despite the impact of higher borrowing costs. Through the second quarter of 2022, cash-outs have accounted for 35.1% of SFR lending activity. Often, for smaller investors, accrued equity in existing properties represents the capital needed for a down payment on another.

Occupancy

As measured by the U.S. Census Bureau, occupancy rates across all SFRs averaged 94.2% in the third quarter of 2022, dropping by 70 bps from the previous quarter (Chart 3). The third-quarter decline was the largest on record since 2013. These data may reflect a slight change in market dynamics, especially as there are increasing reports of rents dropping on a month-over-month basis. As rents fluctuate, tenants opting for new rental units over existing leases could slightly increase the share of vacant units and lower the occupancy rate. Still, the current SFR occupancy rate remains 141 bps above the 2010-2019 average.

Rent Growth

According to DBRS Morningstar, vacant-to-occupied (V2O) annual rent growth has sharply decelerated in recent months, although it remains elevated. In the year ending July 2022, V2O rents are up 12.2% (Chart 4). By comparison, annual V2O rent growth did not eclipse 8.0% from 2015 to 2021. Still, the most recent data represents a clear market inflection. The pace of annual V2O growth fell by 355 bps from a month earlier — the largest single-period decline on record.

For lease renewals, annual rent growth hit a new all-time high in July 2022, reaching 7.9%. Between 2015 and 2019, SFR renewal rent growth consistently ranged between 3.3% and 5.0%. Since February 2021, SFR renewal rent growth has topped 5.0% in 18 consecutive months, marking an unrivaled period of sustained gains.

Even if V2O rent growth continues to slow, renewal rent growth is likely to have a longer stretch of above-average increases. From 2015 through the end of 2020, renewal rent growth, on average, outpaced V2O by 0.5% per year. Since 2020, the trend has flipped, with V2O rent growth outpacing renewals by an average of 4.8% per year. As a result, renewal rent growth is likely to close that gap over the next several months.

Looking at annual rent growth at the market level, the Sun Belt continues to be a national leader even as growth rates have reached an inflection. According to CoreLogic’s Single-Family Rent Index (SFRI), Miami, Orlando, and Atlanta had the highest annual rent growth across the top 20 U.S. metros through August, climbing by 25.0%, 20.8%, and 11.7%, respectively. However, compared to three months ago, annual growth rates have slowed sharply. Miami has seen the most dramatic slowing, with its annual growth rate dropping by 14.5 percentage points (Chart 5). Of the 20 markets tracked by CoreLogic, only two (New York and Philadelphia) posted higher annual growth totals in August than in May.

Cap Rates

Property-level yields for SFR assets remained flat in the third quarter of 2022, holding at 5.3% (Chart 6).¹ The most recent observation keeps SFR cap rates anchored at their all-time low. While cap rates have been compressing, single-family homes have been consistently appreciating. However, the ground has started to shift in recent months. According to the S&P/Case-Shiller Home Price Index, average U.S. home prices fell in both July and August.

The spread between SFR cap rates and 10-year Treasury yields approximates the SFR risk premium. Unwavering SFR cap rates in the third quarter of 2022, matched with growing Treasury yields, narrowed the risk spread by 17 bps — its fourth consecutive quarterly decrease. In total, the risk premium sits at just 223 bps, which is another record low (Chart 7). Compared to one year ago, this risk premium is down by 194 bps.

The cap rate spread between SFR assets and multifamily properties marginally narrowed, by 9 bps, settling at 68 bps. Over the past decade, SFR-multifamily cap rate spreads have fallen from a high of 496 bps in 2012. Increased liquidity and tech adoption have allowed the SFR sector to operate more efficiently over the past decade, generating a bid-down of its risk premium. Over the long term, some positive yield differential between SFR and multifamily assets remains likely — accounting for the co-location efficiencies and shared physical inputs.

Pricing

There are consistent differences between the average assessed property values on mortgages originated to single-family owner-occupants versus single-family investors since 2006. Investors are incentivized to target value-add assets rather than paying top dollar for value that already exists. Additionally, investor-owned SFR properties have vacancies, turnover, and management-related expenses that owner-occupied units do not have, contributing to lower values for the rental units.

Nevertheless, the gap has narrowed dramatically over the past decade, coming down from above 30% in the aftermath of the Financial Crisis to the 10% range where it sits today, according to an analysis of Fannie Mae securitized mortgages. The valuation gap has averaged 10.9% in 2022, rising 189 bps from its average last year (Chart 8).

A slight annual increase in the valuation gap has emerged as valuations across all single-family properties have declined this year. The average underwritten value of a single-family investment property through the first half of 2022 was $362,302, a drop-off of 2.3% from the 2021 average. Owner-occupied units held an average underwritten valuation of $406,541 in 2021, down 0.3% from last year (Chart 9).

Debt Yields

Debt yields, a key measure of credit risk, rose by 46 bps during the third quarter of 2022, jumping to 9.3% (Chart 10). The rise marked the third consecutive quarterly increase, signaling that lenders are exercising caution as economic headwinds mount and the housing market slows.

The rise in debt yields over the past three quarters translates to SFR investors securing marginally less debt capital for every dollar of property-level net operating income (NOI). Through the third quarter of 2022, SFR debt declined to $10.70 for every dollar of NOI, a decrease of $0.55 from the second quarter and $0.69 from the same time last year.

Supply & Demand Conditions

Residential Default Rates

According to the Federal Deposit Insurance Corporation (FDIC), mortgage default rates fell to a new post-Financial Crisis low of 1.6% in the second quarter of 2022 — a positive sign that, despite the housing market’s pricing slowdown, borrower distress remains exceptionally limited (Chart 11).

In the aftermath of the 2008 housing crisis, investors with available financing took advantage of the market dislocation, acquiring large portfolios of single-family assets at steep discounts. A similar scenario happening again in this current market is extremely unlikely. Central to the 2008 housing market crash were several factors, such as a deteriorating labor market, relatively high average debt burdens for households, and overexposure of the U.S. banking system to mortgages, which are not present today.

Build-to-Rent

Purpose-built SFR properties, known as BTR communities, are becoming a defining feature of the SFR sector, especially within the institutional slice of the market. In the past year, BTR has accounted for 6.1% of all single-family construction starts, a new record for the product type.

Between 1975 and the start of the prior recession in 2007, BTRs accounted for a little less than 2.0% of all single-family construction starts, according to an analysis of Census Bureau data.

Over the past decade, BTR construction activity has risen appreciably. By unit count, there were 69,000 BTR construction starts in the year ending in the second quarter of 2022 — a 60% growth rate from a year earlier and a new all-time high (Chart 12). The second-quarter total is a 17% jump from its previous all-time high, which was reached just in the prior quarter.

While recent construction totals represent significant market expansion, they are also likely to be understated. The BTR estimate does not include units that have been started and sold to SFR operators (build-for-rent or BFR), as covered in a recent Arbor-Chandan article.

Tracking Demand

Using Google Trends to track the popularity of the search term “homes for rent” can help identify potential hotspots for SFR demand. Macon, GA, was the area where “homes for rent” was searched most during the third quarter of 2022, dethroning Memphis, TN (Table 1). All the metros within the top 10 most searched locations are found in the Sun Belt — further evidence of the region’s epicenter status for the SFR industry. In addition to demand-side factors, lower average land prices in the Southeast have made the region more attractive to large-scale SFR strategies.

Outlook

Following 2022’s marquee year, SFR’s outlook remains highly favorable. In the newly released ULI-PwC 2023 Emerging Trends in Real Estate, rental housing investors remain firmly upbeat about the sector, giving it the second-highest “buy” rating of the six polled residential sub-types. A plurality (42.3%) of investors rate SFR as a buy, compared to just 17.0% giving the sector a “sell” rating. On the horizon, there are some warning signs to watch. Namely, the sustainability of record-low capitalization rates should be in question as home prices decline and lenders raise their required debt yields. However, the immediate outlook for the SFR sector remains positive. All else being equal, its position as the homeownership alternative should be seen as a sign of countercyclical stability in the current market environment while the long-term tailwinds of institutionalization and professionalization will remain at the sector’s back.

¹ Unless otherwise noted, the Chandan Economics data covering single-family rental cap rates and debt yields are based on model estimates and a sample pool of loans. Data are meant to represent conditions at the point of origination.

For more single-family rental research and insights, visit arbor.com/articles

Disclaimer All content is provided herein “as is” and neither Arbor Realty Trust, Inc. or Chandan Economics, LLC (“the Companies”) nor their affiliated or related entities, nor any person involved in the creation, production and distribution of the content make any warranties, express or implied. The Companies do not make any representations regarding the reliability, usefulness, completeness, accuracy, currency nor represent that use of any information provided herein would not infringe on other third party rights. The Companies shall not be liable for any direct, indirect or consequential damages to the reader or a third party arising from the use of the information contained herein.

Single-Family Rental Investment Trends Report Q2 2022

Rent Growth and New Construction Trend Higher as Cap Rates Edge Lower

Key Findings

Vacant-to-occupied rent growth surges again, reaching 14.8% year-over-year.
Cap rates slide back to 5.3%, just above all-time lows.
Build-to-rent construction starts totaled 57,000 over the past year, a new record high.

Table of Contents

PDF link below

State of the Market

At a time when economic growth is slowing, the single-family rental (SFR) market is flourishing.

The cost of homeownership rose again in the second quarter, with 30-year fixed mortgage rates averaging 5.3% — their highest quarterly average since 2008. Even as there are reports of new homebuyer momentum cooling, prices remain near record highs. The combination of record prices and high borrowing costs is now leading would-be homeowners to seek alternatives, supporting the demand for SFR.

In the CMBS market, SFR issuance reached a record $16.6 billion in 2021 — nearly doubling 2020’s total of $8.9 billion, according to Finsight. Through the second quarter of 2022, issuance soared 34% above the mark set at 2021’s midpoint (Chart 1) to reach $8.5 billion. Further, SFR’s market cap reached $4.4 trillion.

The growing success of the SFR sector has not gone unnoticed, including on Capitol Hill. In late June, the U.S. House Committee on Financial Services convened a hearing to explore the role single-family investors have played in declining affordability. According to the testimony of Brookings Metro Senior Fellow Jenny Schuetz, the growth of the institutional SFR sector has been a symptom, not a cause, of tight housing markets. Her testimony is in line with recent research from Freddie Mac that identifies record-low mortgage rates and limited new homebuilding as the primary culprits for declining home affordability. Further, according to a recent Arbor-Chandan analysis, the overall share of rentals in the housing market has remained balanced in recent years, even with the growing wave of institutional participation.

On balance, the specter of potential market-limiting legislation cannot be ignored. At the same time, the sector is well-positioned to see continued growth in the second half of 2022. SFRs are uniquely capable of offsetting the effects of inflation through annual rent renewals, and the sector remains insulated from a potential impending recession as would-be homebuyers are re-engaging with the rental market in larger numbers.

Performance Metrics

Originations

According to a Chandan Economics analysis of Fannie Mae data, a lending source for mostly non-institutional borrowers, refinancing, instead of acquiring, has accounted for the majority of recent originations to single-family investors. However, as the Federal Reserve has kicked off its monetary tightening cycle and market interest rates have risen in 2022, the splits between acquisitions and refinancings have started to look more balanced. In 2020, refinancing activity accounted for 71.0% of tracked originations (Chart 2). In 2021, the refinancing share remained elevated at 68.8%. Through the first quarter of 2022, the refinancing share dropped all the way down to 58.5% of originations. The decline was driven by a significant decrease in term/rate refinancings. Term/rate refinancings accounted for 47.3% and 41.3% of SFR originations in 2020 and 2021, respectively. So far in 2022, they have only accounted for 19.5% of originations.

Occupancy

As measured by the U.S. Census Bureau, occupancy rates across all SFRs averaged 94.9% in the second quarter of 2022, holding steady from the first quarter of the year (Chart 3). The second-quarter reading keeps the SFR occupancy rate within 40 basis points (bps) of its generational high — indicating that the sector is operating at or near full potential occupancy.

Rent Growth

According to DBRS Morningstar, vacant-to-occupied (V2O) annual rent growth accelerated to an unprecedented high of 16.7% in July 2021 (Chart 4). Thereafter, rent growth on new leases slowed, lessening in four of the next six months. V2O rent growth totaled 11.4% year-over-year in January 2022, and while it remained high by historical standards, the pattern was clearly that of falling momentum. Then, surprisingly, V2O re-inflected in February and posted higher totals in three consecutive months through May. By the end of May 2022, rents on new leases were up 14.8% from a year earlier.

The ‘twin peaks’ of extraordinarily robust SFR rent growth over the last two years can be attributed to two independent forces. A wave of new single-family housing demand during the COVID-19 pandemic and an increase in hybrid work adoption led to what can be best described as a recalibration of market pricing. The more recent surge in rent growth is attributable to high levels of inflation, which operators consider when resetting rents.

For lease renewals, annual rent growth slid to 7.2% in April, the most recent reading. This was down from the all-time high of 7.9% in February, although remained well above baseline levels of growth. Between 2015 and 2019, SFR renewal rent growth consistently ranged between 3.3% and 5.0%.

Analyzing rent growth at the market level, unsurprisingly, the Sun Belt has maintained its dominance. According to CoreLogic’s Single-Family Rent Index, annual rent growth across the top 20 U.S. metros through May was highest in Miami (39.5%), Orlando, (24.8%), and Las Vegas (16.7%). All of the tracked Sun Belt metros saw rent growth totals above 9.7% in the year ending May 2022.

Cap Rates

Property-level yields for SFR assets ticked down in the second quarter of 2022, falling by 29 bps to settle at 5.6% (Chart 5).¹ The second-quarter observation brings SFR cap rates within 5 bps over their all-time low in the fourth quarter of 2021. According to the S&P/Case-Shiller National Home Price Index, U.S. home prices were up 19.8% from a year ago through May 2022. With single-family annual home price growth reaching record highs over the past year, it has created downward pressure on SFR cap rates. However, home price growth is losing momentum throughout the country. If home price appreciation recedes from its record high levels and SFR rent growth maintains its pace, SFR cap rates are likely to see some upward influence through the second half of 2022. Historically,

rent inflation trends lag behind the overall inflation rate, making the above scenario more likely.

Compressing SFR yields in the second quarter of 2022 matched with growing Treasury yields causing the risk spread to narrow by a weighty 127 bps. In total, the risk premium sits at just 239 bps — its lowest rate on record by a sizeable 87 bps (Chart 6).

The cap rate spread between SFR assets and multifamily properties also narrowed, albeit by a more marginal 10 bps, settling at 76 bps. Over the past decade, SFR-multifamily cap rate spreads have narrowed from a high of 496 bps in 2012 to the sub-100 bps levels observed today. Increased liquidity and tech adoption have allowed the SFR sector to operate more efficiently over the past decade, generating a bid-down of its risk premium. Over the long term, some positive yield differential between SFR and multifamily assets remains likely — accounting for the co-location efficiencies and shared physical inputs.

Pricing

According to a Chandan Economics analysis of Fannie Mae securitized mortgages, there are material differences between the average assessed property values on mortgages originated to single-family owner-occupants versus single-family investors. The average underwritten value of a single-family investment property in 2022 has averaged $365,313 compared to $413,988 for owner-occupied units (Chart 7).

Through the first quarter of 2022, there is an average valuation gap of 11.8% on units purchased for investment vs. for an owner-occupant — an increase of 258 bps from the 2021 average. Several factors are likely to contribute to this valuation gap, one being that many investors are targeting value-add assets rather than paying top dollar for value that already exists. Additionally, investor-owned SFR properties have vacancy, turnover, and management-related expenses that owner-occupied units do not have to account for, contributing to lower values for these types of rental units. Nevertheless, the gap has narrowed dramatically over the past decade.

Between 2004 and 2011, the valuation gap sat in a consistent range of 27.2% to 32.5% (Chart 8). As more investors and capital entered the SFR space, discounted investment units became harder to find and competition for inventory ramped up, sending the valuation gap to an all-time low of 5.4% in 2017. With demand for single-family housing reaching a fever pitch leading up to and through the pandemic, the valuation gap has rebounded in recent years.

Debt Yields

Debt yields, a key measure of credit risk, rose by 15 bps during the second quarter of 2022, settling at 8.9% (Chart 9). The increase marked the second consecutive quarterly increase after nearly two years of uninterrupted declines.

The slight debt yield increases over the past two quarters translate to SFR investors securing marginally less debt capital for every dollar of property-level net operating income (NOI). Through the second quarter of 2022, SFR debt declined to $11.26 for every dollar of NOI, a $0.19 decrease from the prior quarter, yet still up by $0.43 from this time last year.

Supply & Demand Conditions

Residential Default Rates

default rates peaked at 8.1% in 2012, leading to an abundance of distressed sales and accelerated institutional growth in the SFR sector (Chart 10).

The pandemic had a much different impact on the housing market than the Great Recession. Between growing asset prices and federally directed forbearance, homeowner defaults remained uncommon during the pandemic. Default rates hit a pandemic high of 2.5% in the fourth quarter of 2020 — just 74 bps above its all-time low. As of the first quarter of 2022, single-family default rates declined for five consecutive quarters, settling at 1.8%.

Build-to-Rent

Purpose-built SFR properties, known as build-to-rent (BTR) communities, continue to become a defining feature of the SFR sector, especially within the institutional slice of the market.

Based on an analysis of Census Bureau data, between 1975 and the start of the prior recession in 2007, BTRs accounted for a little less than 2.0% of all single-family construction starts (Chart 11). In 2013, BTR’s percentage share of construction starts reached an all-time high of 5.8%, and through the first quarter of 2022, the share remained elevated at 5.0%. Moreover, the BTR share of single-family home construction has increased for three consecutive quarters.

Measuring by unit count, there were 57,000 BTR construction starts in the year ending in the first quarter of 2022 — a 33% increase from a year earlier and a new all-time high. While these construction totals represent significant market expansion, they are also like to be understated. The single-family construction starts data does not include units that have been started and sold to SFR operators (build-for-rent or BFR). In a recent Arbor-Chandan analysis, Chandan Economics estimates that the total number of SFR construction starts in 2021 may have been as high as 90,000.

Tracking Demand

Utilizing Google Trends, the popularity of the search term “homes for rent” can shed light on the hotspots of SFR demand in different markets across the country. Memphis, TN, was the area where this term was searched most during the second quarter of 2022, dethroning Savannah, GA, which had seen the highest search frequency in the previous quarter (Table 1).

The Sun Belt continues to be the region driving the most SFR demand, with the southeast corner of the country being its tightly packed epicenter. All of the metros in the top 10 are located in just five states: Georgia, Tennessee, South Carolina, Alabama, and North Carolina. Affordability, lower taxes, and warmer weather are among the leading reasons why these states top the list.

Outlook

The SFR sector had a marquee year in 2021, and through 2022’s halfway point, it performed in a similar fashion. Cyclical forces are aiding the sector even as macroeconomic momentum slows. A recent Gallup poll indicates that a record low share (30%) of Americans think that right now is a good time to buy a home. Combining this with the fact that Americans are increasingly favoring suburban housing options, the SFR sector’s favorable outlook is clear. The potential for new housing legislation targeted toward rentals is a potential uncertainty that should remain on the sector’s radar. However, all told, the immediate outlook for the sector remains firmly positive, as a bedrock of demand, a countercyclical business model, and the ability to absorb inflation are uniting to propel the SFR market upward in an otherwise challenged macroeconomic period.

¹ Unless otherwise noted, the Chandan Economics data covering single-family rental cap rates, loan-to-value ratios, and debt yields are based on model estimates and a sample pool of loans. Data are meant to represent conditions at the point of origination.

For more single-family rental research and insights, visit arbor.com/articles

Single-Family Rental Investment Trends Report Q1 2022

Cap rates hold steady as valuations accelerate into Spring 2022

Key Findings

Annual rent growth for lease renewals reaches 7.8% — a new all-time high.
Cap rates rise to 5.6% as cashflows strengthen.
First-quarter SFR securitizations are up more than double from last year.

Table of Contents

State of the Market

With wind in its sails, the single-family rental (SFR) sector continued to gain positive momentum in the first quarter of 2022. With the costs of homeownership rising alongside mortgage rates, SFR’s growing role as the new U.S. starter home continues to cement.

The sector’s decade-long trend of institutionalization has accelerated over the past year. According to John Burns Real Estate Consulting, more than $50 billion of institutional capital is currently moving through the SFR sector. In the CMBS market, SFR issuance reached a record $16.6 billion in 2021 — nearly doubling 2020’s total of $8.9 billion, according to Finsight. In the first quarter of 2022, SFR CMBS issuance reached $3.7 billion, rising 124% above the total observed in the first quarter of 2021 (Chart 1).

The demand for single-family housing in the U.S. increased throughout the pandemic, while access to homeownership did not. With conventional 30-year mortgage rates reaching above 5% in April, the monthly debt servicing costs on new home loans are nearly twice what they were in early 2020 Further, according to the Mortgage Bankers Association, lending standards are about 30% tighter today than they were in early 2020. Additionally, the Federal Reserve’s ongoing tightening cycle, which is expected to cool many parts of the economy, will increase mortgage borrowing costs — a development that will push some would-be buyers into the rental market. On balance, the SFR sector is well-positioned to see continued growth in 2022 as cyclical forces play in its favor, and underlying demand for single-family housing remains strong.

Performance Metrics

Originations

According to a Chandan Economics analysis of Fannie Mae data, a lending source for mostly non-institutional borrowers, refinancing, instead of acquiring, has accounted for the significant majority of recent originations to single-family investors. In 2020, refinancing activity accounted for 71.0% of tracked originations (Chart 2). In 2021, the refinancing share dropped slightly to 69.9%. While the change from 2020 to 2021 was marginal, on a quarter-to-quarter basis, the shifts were anything but. The refinancing share of lending activity declined every quarter throughout the year, reaching a high of 77.7% in the first quarter and sinking all the way to 60.1% in the fourth. Notably, term/rate refinancings declined by 4.4 percentage points in 2021, and 26.8 percentage points between the first and fourth quarters — a sign that investors were locking into low-interest rates early last year ahead of the Federal Reserve’s

monetary tightening.

Occupancy

As measured by the U.S. Census Bureau, occupancy rates across all SFRs averaged 94.9% in the first quarter of 2022, rising by 10 basis points (bps) from the fourth quarter of 2021 (Chart 3). The first-quarter reading brings the SFR occupancy rate within 40 bps of its generational high — indicating that the sector is operating at or near full potential occupancy.

Rent Growth

Single-family rent growth remained robust entering 2022, even as the pace of increase on newly signed leases has started to slow. According to DBRS Morningstar, vacant-to-occupied (V2O) annual rent growth accelerated to an unprecedented high of 17.1% in July 2021 in what can be best described as a recalibration of market pricing (Chart 4). Since then, V2O rent growth slowed in five of six months, reaching 11.5% in the latest reading. Even as momentum has slowed, the current pace of rent increases remains well above the pre-pandemic pattern. Between 2015 and 2019, V2O rent growth averaged 3.3% — a baseline that the January 2022 data point outperforms by a weighty 816 bps.

For lease renewals, annual rent growth hit another all-time high in January 2022, reaching 7.8%. Between 2015 and 2019, SFR renewal rent growth consistently ranged between 3.3% and 5.0%. Since February 2021, SFR renewal rent growth has topped the 5.0% mark in 12 consecutive months of observations.

Surging lease renewal rent growth is best categorized as a market response to the growth in V2O prices. When setting rents for existing tenants, many landlords will consider three primary, interconnected criteria:

What the unit could rent for on the open market
Probability of tenant renewal
Anticipated length of vacancy if a tenant does not renew

When a landlord identifies a unit to be underpriced and perceives that it will be rented again quickly in the event of a vacancy, they are more likely to pursue a sizable rent increase on the next lease. With V2O rent growth topping renewal rent growth for 22 consecutive months, lease-over-lease rents should be expected to accelerate over the short term as prices re-establish an equilibrium.

Analyzing rent growth at the market level, unsurprisingly, the Sun Belt has maintained its dominance. According to CoreLogic’s Single-Family Rent Index (SFRI), annual rent growth across the top 20 U.S. metros through February was highest in Miami, Orlando, and Phoenix, climbing by 39.5%, 22.2%, and 18.9%, respectively. All of the tracked Sun Belt metros saw rent growth totals above 10.1% in the year ending February 2022.

Cap Rates

Property-level yields for SFR assets ticked up in the first quarter of 2022, rising by 34 basis points to settle at 5.6% (Chart 5).¹ The first-quarter observation marks the first time that SFR cap rates have risen since the onset of the COVID-19 recession.

While growing cap rates may concern operators, the reason why yields are rising carries much greater importance. The first-quarter rise is attributable to strengthening net operating incomes achieved through higher rents— not a devaluation of assets. Historically, single-family rent growth has lagged inflation by several months. Rent rolls, which take a full year to reset, are currently still adjusting to the bull-run of home prices experienced in 2021. This lagged adjustment is creating an anticipated catch-up period where property incomes are rising more quickly than valuations, causing upward pressure on cap rates.

The yield spread between SFR cap rates and the 10-year Treasury estimates the SFR risk premium. Despite growing SFR yields in the first quarter of 2022, this risk spread narrowed as the yield on Treasurys rose by a more significant 42 bps. In total, the risk premium sank 8 bps from the previous quarter to land at 3.7% — the lowest level since late 2018. Moreover, the risk premium is down by a weighty 70 bps from one year ago (Chart 6).

The cap rate spread between SFR assets and multifamily properties widened by 35 bps in the first quarter of 2022, settling at 84 bps — within one basis point of where they were this time last year. Over the past decade, SFR-multifamily cap rate spreads have narrowed from a high of 496 bps in 2012 to the sub-100 bps levels observed today. Increased liquidity and tech adoption have allowed the SFR sector to operate more efficiently over the past decade, generating a bid-down of its risk premium. Over the long term, some positive yield differential between SFR and multifamily assets remains likely — accounting for the co-location efficiencies and shared physical inputs.

Pricing

According to a Chandan Economics analysis of Fannie Mae securitized mortgages, there are material differences between the average assessed property values on mortgages originated to single-family owner-occupants versus single-family investors. The average underwritten value of a single-family investment property in 2021 averaged $367,926 compared to $405,844 for owner-occupied units (Chart 7).

Between 2004 and 2011, the valuation gap sat in a consistent range of 27.2% to 32.5% (Chart 8). As more investors and capital entered the SFR space, discounted investment units became harder to find and competition for inventory ramped up. The valuation gap fell to an all-time low of 5.4% in 2017 before moderating in the years since. In 2021, the average valuation gap averaged 9.3% — a marginal 16 bps decrease from the 2020 average.

Credit Trends Loan-to-value ratios (LTVs), a measure of credit risk on SFR mortgages, kicked off 2022 by rising 56 bps, landing at 66.1% (Chart 9). After sinking by 328 bps during 2020, LTVs quickly recovered back to pre-pandemic levels by mid-2021. The first-quarter 2022 observation marks the highest LTVs have sat in the sector since first-quarter 2018.

Debt yields, another key measure of credit risk, rose by 33 bps during the first quarter of 2022, to settle at 8.7% (Chart 10). The increase marked the end of a streak of debt yield declines that had stretched to seven-consecutive quarters. The slight increase in debt yields translates to SFR investors securing marginally less debt capital for every dollar of property-level net operating income (NOI). Through the first quarter of 2022, SFR debt declined to $11.45 for every dollar of NOI, a $0.45 decrease from the prior quarter, yet still up by $1.43 from this time last year.

Supply & Demand Conditions

Residential Default Rates

During the 2008 housing crisis, investors with available financing took advantage of the market dislocation, acquiring large portfolios of single-family assets at steep discounts. According to the Federal Deposit Insurance Corporation (FDIC), mortgage default rates peaked at 8.1% in 2012, leading to an abundance of distressed sales and the beginning of the SFR sector as we know it today (Chart 11).

The pandemic had a much different impact on the housing market than the Great Recession. Demand for single-family housing increased, causing prices to rise through the distress. Between growing asset prices and federally directed forbearance, homeowner defaults remained uncommon during the pandemic. Default rates hit a pandemic high of 2.5% in the fourth quarter of 2020 — just 74 bps above its all-time low. As of the fourth quarter of 2021, single-family default rates declined for four consecutive quarters, settling at 2.0%.

Build-to-Rent

Purpose-built SFR properties, known as build-to-rent (BTR) communities, continue to become a defining feature of the SFR sector, especially within the institutional slice of the market.

Based on an analysis of Census Bureau data, between 1975 and the start of the prior recession in 2007, BTRs accounted for a little less than 2.0% of all single-family construction starts (Chart 12). In 2013, BTR’s percentage share of construction starts reached an all-time high of 5.8%, and through the fourth quarter of 2021, the share remained elevated at 4.5%. BTR construction starts totaled 51,000 units through the end of 2021, a 15.9% growth rate from a year earlier and a new all-time high. While these construction totals represent significant market growth, they are also like to be understated.

The reason why the initial BTR estimate may be understated is that the single-family construction starts data does not include units that have been started and sold to SFR operators (build-for-rent or BFR). In a recent Arbor-Chandan analysis, Chandan Economics estimates that the total number of SFR construction starts over the past year may be as high as 90,000 through the fourth quarter of 2021 (Chart 13).

Tracking Demand

Utilizing Google Trends, the popularity of the search term “homes for rent” can be leveraged as a proxy for hotspots of SFR demand. Savannah, GA, was the most popular area where the term was searched during the first quarter of 2022, dethroning another Georgia metro, Macon, which had seen the highest search frequency in the previous period (Table 1).

The Sun Belt continues to be the region driving new SFR demand, with the southeast corner of the country standing as a tightly-packed epicenter. All of the metros in the top 10 are located in just five states: Georgia, Tennessee, South Carolina, Alabama, and North Carolina. Among the reasons why the Sun Belt continues to attract new residents and SFR demand, affordability, lower taxes, and warmer weather all top the list.

Outlook

The SFR sector had a marquee year in 2021. Early indications are that it will continue to post impressive growth totals in 2022 — even as some of the pandemic-related tailwinds are exhausted. According to the John Burns Real Estate Consulting Single-Family Rental Market Index, a diffusion index where a reading above 50 indicates improving conditions, momentum has slowed. The index has declined in two-consecutive quarters through the end of 2021, falling from 84.4 to 71.5. Two of the index’s sub-components, occupancy, and current leasing conditions, have declined for three consecutive quarters. Still, all sub-components and the overall index remained above 50, signaling improving conditions across the board. All told, the immediate outlook for the SFR sector remains firmly positive. According to the Federal Reserve Bank of New York 2022 SCE Housing Survey, just 42% of renters think they will buy a home in the next three years — down from 52% when surveyed last year. The SFR sector is well-positioned to absorb both lifestyle renters and a growing wave of forming families that are priced out of homeownership, creating a dependable bedrock of demand for the year ahead.

For more single-family rental research and insights, visit arbor.com/blog

Single-Family Rental Investment Trends Report Q4 2021

Q4 2021
Single-Family Rental
Investment Trends
Report

Cap Rates Reach New Lows as Build-to-Rent Construction Accelerates

Key Findings

Cap rates dipped to 5.3% in fourth-quarter 2021 — a new all-time low
Vacant-to-occupied (V2O) annual rent growth remains robust, hitting 13.5% through October
Occupancy rates edge down to 94.8% in the third quarter, just 50 bps off their generational high

Table of Contents

State of the Market

The single-family rental sector (SFR) enjoyed its best year on record in 2021, as demographic and pandemic-related forces combined with growing investment enthusiasm.

The sector’s decade-long trend of institutionalization has accelerated over the past year. According to Finsight, SFR CMBS issuance reached a record $16.6 billion in 2021— nearly doubling 2020’s total of $8.9 billion.

Despite the recent impressive growth, the sector looks ready to continue growing rapidly. According to a recent survey of 3,300 renters by RentCafe, nearly 4-out-5 respondents would consider moving into an SFR community. Further, current housing market conditions will likely mean that the transition into ownership will be increasingly complex over the medium term. Home prices have already surged to new peaks, and 30-year fixed mortgage rates have started to rise, reaching their highest levels since before the pandemic as of January 2022. According to the National Association of Home Builders, the share of prospective home buyers looking to buy a home in the next 12-months has dropped for two consecutive quarters through the end of 2021.

On balance, the demand for single-family housing in the U.S. has only increased throughout the pandemic while access to ownership has not. Single-family rentals have helped to fill the gap, providing accessible housing options in suburban neighborhoods with family-centric amenities. Nationally, the SFR sector remains in growth mode with many supportive tailwinds.

Performance Metrics

Originations
According to a Chandan Economics analysis of Fannie Mae data, a lending source for mostly non-institutional borrowers, refinancing, instead of acquiring, has accounted for the significant majority of recent originations to single-family investors. In 2020, refinancing activity accounted for 71.0% of tracked originations. Through the third quarter of 2021, the refinancing share was even higher, reaching up to 76.7%— its highest percentage on record (Chart 1). As recently as 2018, originations for acquisitions still accounted for most lending activity. However, with borrowing rates falling to new all-time lows in recent years and through the pandemic, investors have seized the opportunity to lock in lower financing rates. Notably, rate-and-term refinancings have accounted for 54.6% of all originations and a weighty 71.2% of refinancings in 2021, a sign that investors are locking into low interest rates ahead of the Federal Reserve’s anticipated monetary tightening.

Occupancy
As measured by the U.S. Census Bureau, occupancy rates across all SFRs averaged 94.8% in the fourth quarter of 2021, dipping by 20 basis points (bps) from the third quarter (Chart 2). The fourth-quarter reading brings the SFR occupancy rate 50 bps off their generational highs, though it still indicates that the sector is operating at or near full potential occupancy.

Rent Growth
Annualized rent growth on vacant-to-occupied (V2O) SFR properties remains robust, though it has started to slow ¹. According to DBRS Morningstar, V2O annual rent growth reached an all-time high of 17.1% in July 2021 before retreating in August and September (Chart 3). Through October 2021, the last month of available data, V2O annual rent growth sits at 13.5%— 359 bps off the July peak but still 670 bps higher than any pre-pandemic reading. The 2021 surge in V2O rents coincides with a historic rise in home property values. According to the S&P/Case-Shiller Home U.S. National Home Price Index, annual home price appreciation reached a high watermark of 19.0% in August.

For lease renewals, annual rent growth hit a record high in September 2021, reaching up to 7.2%. Through October, the latest month of available data, average rents in lease renewals are up by 6.9% from a year earlier. Between 2015 and the onset of the pandemic in 2020, SFR renewal rent growth consistently ranged between 3.3% and 5.0%. Since February 2021, SFR renewal rent growth has topped the 5.0% mark in nine consecutive months of observations.

Unsurprisingly, the Sun Belt has maintained its SFR rent growth dominance over the past year at the metro level. According to CoreLogic’s Single-Family Rent Index (SFRI), annual rent growth across the top 20 U.S. metros through November was highest in Miami, Phoenix, and Las Vegas, climbing by 33%, 19%, and 17%, respectively. According to a recent report by Redfin, the trio of Miami, Phoenix, and Las Vegas account for the three U.S. metros with the highest net inflows of new residents.

¹ Vacant-to-Occupied (V2O) units are single-family properties that were previously vacant and were recently leased by a new renter household. These units tend to adjust more quickly to seasonal and economic factors as they are not contractually tied to a base year rent and are free to adjust to prevailing market rents.

Cap Rates
Property-level yields for SFR assets continued to compress in the fourth quarter of 2021, reflecting that growing investor demand continues to outpace the delivery of new SFR supply. Through the fourth quarter of 2021, SFR cap rates averaged 5.3%, down 21 bps from the previous quarter and down 50 bps from the same time last year (Chart 4) ². The fourth-quarter reading marks the lowest observed cap rates since Chandan Economics began tracking the sector in 2011. Moreover, SFR cap rates have fallen for four consecutive quarters after marginal increases in 2020.

The yield spread between SFR cap rates and the 10-year Treasury estimates the SFR risk premium. This spread narrowed as Treasurys rose and SFR yields fell in the fourth quarter. In total, the risk premium sank 42 bps from the previous quarter to land at 3.7%— the lowest level since early 2019. Moreover, the risk premium is down by a weighty 117 bps from one year ago. The cap rate spread between SFR assets and multifamily properties ticked up by 3 bps in the fourth quarter of 2021, settling at 48 bps. In the prior quarter, the cap rate spread hit an all-time low of 45 bps. The marginal increase in the latest data comes as cap rates for multifamily properties fell more significantly than the decline measured for SFR assets to close the year. Measured from one year earlier, the cap rate spread between the two asset types is down by 33 bps. Over the past decade, SFR/multifamily cap rate spreads have narrowed from a high of 496 bps in 2012 to the current sub-50 bps levels observed today. In addition to capital inflows, tech adoption, namely smart home technologies and property management software, have allowed the sector to achieve critical operating efficiencies, reducing risk.

² Unless otherwise noted, the Chandan Economics data covering single-family rental cap rates, loan-to-value ratios, and debt yields are based on model estimates and a sample pool of loans. Data are meant to represent conditions at the point of origination.

Pricing
According to a Chandan Economics analysis of Fannie Mae securitized mortgages, there are material differences between the average assessed property values on mortgages originated to single-family owner-occupants versus single-family investors. Through the third quarter of 2021, the average underwritten value of a single-family investment property last year has averaged $367,250 compared to $407,387 for owner-occupied units (Chart 6).

Several likely factors contribute to this valuation gap, one being that many investors are targeting value-add assets rather than paying top dollar for value that already exists. Additionally, investor-owned SFR properties have vacancy, turnover, and management-related expenses that owner-occupied units do not have to account for, contributing to lower values for the rental units. Nevertheless, the gap has narrowed dramatically over the past decade.

Between 2004 and 2011, the valuation gap sat in a consistent range of 27.2% to 32.5% (Chart 7). As more investors and capital entered the SFR space, discounted investment units became harder to find and competition for inventory ramped up. The valuation gap fell to an all-time low of 5.4% in 2017 before moderating in the years since. Through the third quarter of 2021, the average valuation gap this year has sat at 9.9%— a marginal 18 bps increase from the 2020 average.

Credit Trends
Loan-to-value ratios (LTVs), a measure of credit risk on SFR mortgages, ended the year by edging down for the second consecutive quarter, shaving off 17 bps to land at 65.5% (Chart 8). After sinking by 328 bps between the second and fourth quarters of 2020, LTVs quickly recovered back to pre-pandemic levels by mid-2021. Despite recent marginal declines, SFR LTVs remain higher than they were at the onset of the pandemic. The return and stabilization of LTVs to pre-COVID-19 levels are a welcome signal that credit risk appetites have recovered and remain aligned with the sector’s favorable outlook.

Debt yields, another key measure of credit risk, fell by 37 bps between the third and fourth quarters of 2021, settling at 8.4%— the lowest rate on record (Chart 9). The drop in debt yields translates to SFR investors securing more debt capital for every dollar of property-level net operating income (NOI). Through the fourth quarter of 2021, SFR debt increased to $11.89 for every dollar of NOI, a $0.50 increase from the prior quarter and a $2.13 increase from this time last year.

Supply & Demand Conditions

Residential Default Rates
During the 2008 housing crisis, investors with available financing took advantage of the market dislocation, acquiring large portfolios of single-family assets at steep discounts. According to the Federal Deposit Insurance Corporation (FDIC), mortgage default rates peaked at 8.1% in 2012, leading to an abundance of distressed sales and the beginning of the SFR sector as we know it today (Chart 10).

When the pandemic reached the U.S. in 2020, there was concern that there might be a wave of household defaults and a housing crisis on the horizon. However, those fears never materialized. Residential default rates never rose above 2.5% during the pandemic and have now fallen for three consecutive quarters, settling at 2.1% through the third quarter of 2021. The lack of default activity during the pandemic triggered recession is a feature of housing market demand. Unlike during the Great Recession, homeowners who found themselves unable to meet their monthly mortgage payments had the option to sell their assets at favorable valuations. Moreover, federally directed forbearance also limited the scope of housing market distress, giving homeowners flexibility during the worst of the pandemic’s economic pain.

Build-to-Rent

Purpose-built SFR properties, known as build-to-rent (BTR) communities, continue to become a defining feature of the SFR sector, especially within the institutional slice of the market.

Based on an analysis of Census Bureau data, between 1975 and the start of the prior recession in 2007, BTRs accounted for a little less than 2.0% of all single-family construction starts (Chart 11). In 2013, BTR’s percentage share of construction starts reached an all-time high of 5.8%, and through the third quarter of 2021, the share remained elevated at 4.1%. BTR construction starts totaled 47,000 units through the year ending in third-quarter 2021, a 17.5% growth rate from a year earlier and a new all-time high— a significant growth rate, but one that appears to be understated.

The reason why the initial BTR estimate may be understated is that the single-family construction starts data do not include units that are started and sold to SFR operators (build-for-rent or BFR). In a recent Arbor-Chandan analysis, Chandan Economics estimates that the total number of SFR construction starts over the past year may be as high as 86,000 through third-quarter 2021 (Chart 12).

Tracking Demand

Utilizing Google Trends, the popularity of the search term “homes for rent” is leveraged as a proxy for hotspots of SFR demand. Macon, GA, was the most popular area where the term was searched during the fourth quarter of 2021, dethroning Columbus, GA, which had seen the highest search frequency in the previous period (Table 1).

The Sun Belt continues to be the U.S. epicenter for SFR demand. All of the top 10 markets searched for in the fourth quarter of 2021 are in the Sun Belt. Moreover, all ten are in the Census Bureau’s South region, which saw its resident population grow by 0.65% in 2021— 60 bps better than the Western Census region, which was the only other area of the country to see population growth last year. Among the reasons why the Sun Belt continues to attract new residents and SFR demand, affordability, lower taxes, and warmer weather all top the list.

Outlook

The SFR sector remains firmly in its honeymoon as a newly minted institutional asset class. Even as investment activity has surged, distress remains limited, indicating that growing enthusiasm has not led to widespread undue risk-taking. After the levels of rent growth measured in 2021, some declining pricing momentum should be expected, and evidence suggests that a reversion to more “normal” levels of robust rent growth is already underway. All told, the SFR sector continues to be an attractive option for both lifestyle renters as well as forming families that lack the means to transition into affordable homeownership. SFR has emerged as a vital option in the U.S. housing stock, and with the cost of homeownership set to rise, demand for single-family rental inventory is poised to grow in the years ahead.

For more single-family rental research and insights, visit arbor.com/blog

Single-Family Rental Investment Trends Report Q3 2021

Q3 2021
Single-Family Rental
Investment Trends
Report

Cap Rates Reach New Lows as Rents Continue to Soar

Key Findings

Cap rates dipped to 5.5% in third-quarter 2021, hitting a new all-time low
Vacant-to-occupied (V2O) rent growth reached a record high of 17.1% in July
Occupancy rates edged down to 95.0% in the third quarter, just 30 basis points off their generational high

Table of Contents

State of the Market

The single-family rental (SFR) sector performed well through the third quarter of 2021, with most indicators reflecting a healthy inflow of investment capital and tenant demand.

Heading into the pandemic, the sector was already rapidly professionalizing, leading to a more efficient management process and allowing institutional managers to scale operations. Further, the SFR product type continues to satisfy a significant market need. Would-be first-time homebuyers are often attracted to single-family rentals, as they offer access to suburban single-family homes without the need to make a sizable down payment. According to a Realtor.com analysis, the available supply of U.S. starter homes is less than half of what it was five years ago.

Today, the SFR market is firing on all cylinders. More than $30 billion of institutional capital has been allocated for SFR (including development) since the beginning of 2020, as record-setting rent growth continues to attract new investors to the sector. Many signs point to continued growth for the SFR market going forward.

Performance Metrics

Originations
According to a Chandan Economics analysis of Fannie Mae data, refinancing rather than acquiring has accounted for the majority of recent originations to single-family investors. In 2020, refinancing activity accounted for 71.0% of tracked originations. Through the second quarter of 2021, the refinancing share was even higher, reaching up to 75.9% (Chart 1).

As recently as 2018, originations for the purpose of acquisitions still accounted for most lending activity. However, with borrowing rates falling to new all-time lows in recent years and through the pandemic, investors have seized the opportunity to lock in lower financing rates. More than two-thirds of recent refinancing originations were rate-and-term refinancings.

Occupancy
As measured by the U.S. Census Bureau, occupancy rates across all SFRs averaged 95.0% in the third quarter of 2021, dipping by 30 basis points (bps) from the second quarter (Chart 2). The third-quarter reading brings the SFR occupancy rate just off its generational high, but the sector is still operating at or near full occupancy.

Rent Growth
Annualized rent growth on vacant-to-occupied (V2O) SFR properties continues to reach new highs.¹ According to DBRS Morningstar, V2O annual rent growth was up to 17.1% through July 2021. Moreover, V2O rent growth hit a new all-time high in each of the last seven months of data available (Chart 3). V2O rent growth has been surging since second-quarter 2020, as suburban migration has coincided with a tight housing market, placing upward pressure on rents.

¹ Vacant-to-occupied (V20) units are single-family properties that were previously vacant and were recently leased by a new renter household. These units tend to adjust more quickly to seasonal and economic factors as they are not contractually tied to a base year rent and are free to adjust to prevailing market rents.

For lease renewals, rent growth reached a record 6.9% annualized rate in July, the latest month of available data. Between 2015 and the onset of the pandemic in 2020, SFR renewal rent growth consistently ranged between 3.3% and 5.0%. Since February of this year, SFR renewal rent growth topped the 5.0% mark in six consecutive months of observations.

At the metro level, the Sun Belt has dominated SFR rent growth over the past year. According to CoreLogic’s Single Family Rent Index (SFRI), annual rent growth across the top 20 U.S. metros through August was highest in Miami, Phoenix and Las Vegas, climbing by 21.4%, 19.2% and 15.4%, respectively. These metros also have seen strong performance in their multifamily sectors. On the other end of the SFR rent growth spectrum are Chicago, Boston and Philadelphia, which saw annual rent growth rates over the same period totaling just 1.4%, 1.5%, and 3.4%, respectively.

Cap Rates
Property-level yields for SFR assets continued to compress in the third quarter of 2021, reflecting an abundance of capital entering the sector, staunch investor demand and solid asset price growth. As a result, through the third quarter of 2021, SFR cap rates averaged 5.5%, down 23 bps from the previous quarter and 77 bps from the same time last year (Chart 4). The third-quarter reading marks the lowest observed cap rates since Chandan Economics began tracking the sector in 2011.²

² Unless otherwise noted, the Chandan Economics data covering single-family rental cap rates, loan-to-value ratios and debt yields are based on model estimates and a sample pool of loans. Data are meant to represent conditions at the point of origination.

The yield spread between SFR cap rates and the 10-year Treasury offers an estimate of the SFR risk premium. In the third quarter, this spread inched up by 4 bps to 4.2%, as Treasurys dipped slightly more than SFR yields. While the risk premium grew to 5.8% amid the financial disruption of last year’s second-quarter shutdown, it has now come back in line with pre-pandemic conditions observed throughout 2019.

The cap rate spread between SFR assets and multifamily properties fell to another all-time low in the third quarter of 2021, declining by 32 bps to settle at just 0.5%. In the past year, the spread has declined by 79 bps. Moreover, it is still less than 10 years ago when SFR cap rates were more than 500 bps higher than multifamily. The spread has narrowed dramatically over the past decade as asset values have climbed, SFRs have taken on a growing role of providing affordable rental housing, and operations have professionalized, even among smaller operators.

According to a Chandan Economics analysis of Fannie Mae securitized mortgages, there are material differences between the average assessed property values on mortgages originated to single-family owner-occupants versus to single-family investors. Through the first half of 2021, the average underwritten value of a single-family investment property was $371,456 compared to $410,196 for owner-occupied units (Chart 6).

Several likely factors contributed to this valuation gap. Many investors are targeting value-add assets rather than paying top dollar for value that already exists. Additionally, investor-owned SFR properties have vacancy, turnover and management-related expenses that owner-occupied units do not have to account for, which could also contribute to lower values for the rental units. Nevertheless, the gap has narrowed dramatically over the past decade.

Between 2004 and 2011, the valuation gap sat in a consistent range of 27.2% to 32.5% (Chart 7). As more investors and capital entered the SFR space, discounted investment units became harder to find and competition for inventory ramped up. The valuation gap fell to an all-time low of 5.4% in 2017, before moderating in the years since. Through the second quarter of 2021, the average valuation gap this year has sat at 9.4%.

Credit Trends
Loan-to-value ratios (LTVs), a measure of credit risk, on SFR mortgages edged down in the third quarter of 2021 by 7 bps, landing at 65.5% (Chart 8). The marginal decline in the third quarter came after a second-quarter surge of 351 bps — the largest observed one-quarter increase since the Great Financial Crisis. Through the third quarter of 2021, SFR LTVs were 98 bps higher than where they were at the beginning of the pandemic. The return of LTVs to pre-pandemic levels is a welcome signal that credit risk appetites have recovered and remain aligned with the sector’s favorable outlook.

Debt yields, another key measure of credit risk, fell by 46 bps between the second and third quarters of 2021, settling at 8.8% — the lowest rate on record (Chart 9). The drop in debt yields translates to SFR investors securing more debt capital for every dollar of property-level net operating income (NOI). Through the third quarter of 2021, SFR debt increased to $11.39 for every dollar of NOI, a $0.57 increase from the prior quarter and a $1.82 increase from this time last year.

Supply & Demand Conditions

When the pandemic reached the U.S. in 2020, there was concern that there might be a wave of household defaults and a housing crisis on the horizon. However, those fears have yet to materialize. Favorable levels of liquidity, aggressive buyer demand and federally directed forbearance all played a part in limiting widespread distress. Through the second quarter of 2021, the latest quarter of FDIC data availability, mortgage default rates already started to recover, declining 25 bps from the previous quarter to land at 2.2%.

Build-to-Rent

Purpose-built SFR properties, known as build-to-rent communities, continue to become a defining feature of the SFR sector, especially within the institutional slice of the market.

Based on an analysis of Census Bureau data, between 1975 and the start of the prior recession in 2007, SFRs accounted for a little less than 2.0% of all single-family construction starts (Chart 11). In 2013, SFR’s percentage share of construction starts reached an all-time high of 5.8%. Through the second quarter of 2021, the share remained elevated at 3.7%.

SFR construction starts totaled 42,000 units through the year ending in second-quarter 2021, which is down by 1,000 units from the previous period and down by 3,000 from its most recent high in the third quarter of 2018. It is important to note that these data may understate the full stock of incoming SFR supply as it does not include units that are started and sold to SFR operators, which the National Association of Homebuilders estimates could account for another 2% of single-family housing starts.

Tracking Demand

Utilizing Google Trends, the popularity of the search term “homes for rent” is leveraged as a proxy for hotspots of SFR demand. Columbus, GA, was the most popular area where the term was searched during the second quarter of 2021, dethroning Savannah, GA, which had seen the highest search frequency in the previous period (Table 1).

The Sun Belt continues to be the U.S. epicenter for SFR demand. All the top 10 markets searched for in third-quarter 2021 were in the Sun Belt. Moreover, nine of the 10 were in the Census Bureau’s South region, which saw its resident population grow by 10.3% in the decade ending in 2020, more than any other region. Between robust population growth, which fuels rental housing demand, and greater availability of buildable land, the South is a conducive area for builders to develop single-family rental communities.

Outlook

SFR investments appear to be enjoying widespread success heading into the final months of 2021, as demographic and housing market shifts are fueling investor and renter demand. Measures of occupancy, rent growth and valuations are all near their all-time highs, as cap rates continue to compress and market liquidity improves. These results come as the JBREC/NRHC Single-Family Rental Market Index (SFRMI), a measure of overall SFR market activity, continued to expand in the second quarter of 2021. Further, the SFRMI Survey indicated that operators are upbeat on their assessments of current leasing activity and their forecast for leasing activity six months ahead.

All told, single-family rentals are quickly becoming the new starter home, as young households who struggle with residential mortgage affordability still desire suburban housing. SFRs continue to offer attractive housing options to fill a significant needs gap, which should continue to fuel positive renter and investor demand going forward.

For more single-family rental research and insights, visit arbor.com/blog

Single-Family Rental Investment Trends Report Q2 2021

Q2 2021
Single-Family Rental
Investment Trends
Report

Record Demand Sends Rents, Values Soaring as More Institutional Players Enter the Space

Key Findings

Occupancy rates rose to 95.3%, matching the highest level since 1994
Vacant-to-occupied (V20) rent growth accelerated to 12.7%, a record high
Cap rates dipped to 5.8% amid rising asset valuations

Table of Contents