Single-family rentals (SFRs) have taken off during the pandemic. From April 2020 to April 2021, single-family rents grew 5.3 percent—more than doubling from the year earlier, according to CoreLogic’s Single Family Rent Index. In the process, SFRs also saw their largest price increase in 15 years.
The pandemic may have spotlighted the many advantages of SFR living, such as more rental value per square foot, a yard and extra space for things like teleworking and exercise. But now that the country is getting vaccinated expect single-family rentals to stay popular.
For family offices and high-net-worth individuals, it’s time to pay attention to this asset class. Dig a little deeper behind the torrid pandemic rent growth and you see trends to make you believe it will provide a durable income stream for years to come.
Strong demand from millennials and an undersupply of rental homes underscores the potential of long-term rent growth. With more sources of debt financing providing a lower cost of capital and robust third-party management platforms, investors can also maximize their returns.
Growing demand
The oldest members of the millennial generation, the nation’s largest, are turning 40 this year, according to Pew Research. While they’re still forming families at a slower pace than other generations, at least they’re finally starting families. As of 2018, 55 percent of millennial women had given birth to a child, according to Pew. As more millennials move into their 30s, expect that number to increase.
As millennials form families, they’ll need space. That’s where single-family rentals come into play. The skyrocketing costs of for-sale homes, which saw a record price jump of 23.6 percent in the past year, could make homeownership increasingly unattainable for many Americans, according to the National Association of Realtors.
While homeownership may become more challenging to attain, the pandemic has given more Americans the flexibility to work wherever they choose. Gartner says almost 50 percent of Americans will continue to work remotely at least some of the time after the pandemic. That percentage was only 30 percent before COVID. With that newfound freedom, more people will be able to justify leaving cities for more space in single-family rentals.
Once those residents arrive, they’re here to stay. The SFR resident is actually a very sticky renter, meaning they’re likely to remain in their home for three years or longer. In many cases, the average stay is trending toward four years. These renters also have higher incomes than the traditional multifamily renter. These factors together create a more stable cash flow.
In addition to surging demand for SFRs, there is also an emerging undersupply of homes. RCLCO projects that demand is greater than the current pace of production, leading to a significant supply shortfall. While the emerging build-to-rent market could fill some of this demand, it won’t solve the problem entirely.
A stable income stream
If you’re a high-net-worth investor and family office, single-family rental growth is something you should be monitoring. The SFR sector provides a stable cash flow in a growing industry. While REITs can also offer that stable cash flow, there are additional risks from the stock market, capital markets and securities markets. In the private real estate market, those pitfalls either aren’t as pronounced or are non-existent.
Many other risks in the SFR sector have been alleviated after more than a decade of maturation from a fragmented mom-and-pop business to a professionally-managed, institutional asset class.
As institutional investors learned how to build scale, the industry began to thrive and grow. The Financial Crisis allowed investors to understand what scale was needed to operate efficiently. In the past, investors stayed away from scatter site rentals because of difficulty managing properties located miles apart. However, over the past decade, a group of professional, third-party managers has emerged to handle the day-to-day operations of these homes.
Since those homes were bought out of distress, investors could experiment and make mistakes without dramatically hurting their overall returns. Through that period of trial-and-error, they learned how to manage the asset class properly. As a result, it can now produce durable cash flows.
SFRs can also be a solid complement to apartments in a portfolio. While multifamily has been a relatively liquid and mature asset class for 20 or 30 years, the SFR asset class provides better fundamentals and excellent growth prospects today.
As investors have begun to recognize the potential of SFRs, so have lenders. Traditionally, Fannie Mae and Freddie Mac offered non-owner-occupied financing for up to 10 properties. But once an owner moved that threshold, they would need to find funding through community banks. Beyond that, there wasn’t much out there.
Fortunately, financing options have increased over the years. Now, private lenders like funds and large money center banks are eager to provide financing, depending on the investor. There are even securitization options. Since the agencies don’t offer financing for scattered sites, these new funding sources are invaluable. For investors, more lending competition means a lower cost of capital.
And with that, you can expect even better returns.
Sudha Reddy serves as managing principal of Haven Realty Capital, a Los Angeles-based real estate investment and management firm focusing on the acquisition and development of single-family and multifamily assets in select markets throughout the United States.
