This is a little off topic, maybe, but your statement that "It was a feast just waiting to be lapped up because there is no way that small time investors could buy up all the discounted properties. There just isn’t enough small-scale capital. Slowly, large-scale institutional capital eventually came into the space, and now, finally, prices have risen high enough that the large-scale buyers are purchasing new homes from the builders." reminded me of something I've always wanted to look at.
I was looking at a graph of housing starts going back to the mid 60's broken out into single-family and multifamily. The compressed graph emphasized how flat the MF start line became beginning in the late 80's which coincides with changes to the tax laws. Those changes impacted depreciation schedules and limited passive losses.
Before those changes most of the small apartment buildings and 4-duplexes, the missing middle, were mainly built as tax shelters and owned by small partnerships, mostly local. I remember reading that MF starts fell over 50% in years shortly after those changes.
My hunch is just like your statement about larger scale capital in the SF space, the same occurred in the MF space as a result. My hunch is also that it's not just zoning that limits the missing middle; it's lack of capital. Also, because of scale it's hard for a new 4-plex to compete with a new 200 unit apartment complex with full amenities.
Really enjoy your analytical approach to housing markets, housing costs, and, in my mind, placing the blame for 2007-9 on the money side where it belongs.
Also, while I think I agree that locking institutional level investors out of SFRs is a good idea, the banking, house builder and investment lobbies will never stand for denying institutional ownership of SFR’s as long as the current neoliberal GOP, Investment Advisory, Lending Agencies and Fed groups are in control. Too much money to be made, as always, at the consumer’s expense.
If you think institutional investment in SFR is at the consumer's expense, then I don't see how you could like my approach to housing markets.
I don't think SFR should even be a sector. There is no natural reason for it to exist. But, if it is illegal to originate mortgages for millions of families that would live in them, somebody has to be the owner.
The popularity of the POV you expressed here scares me more than anything I have researched on this over 10 years.
Off to a rehearsal now. Lots to unpack all around. I’m a semi retired investment professional with more than 50 years experience with more than half of that in institutional RE investment.
The primary effects of CMBS and RMBS securitized pooling were a vast increase in available capital and LOWER effective interest rates under the modified Black-Scholes models used to create the pools. Because it was incredibly profitable and “relatively easy” to raise new capital through securitization the only remaining challenges were finding new “like kind” products to agglomerate and managing the derivative risks. But, the Subprime pools became the canary in the coal mine and effectively killed the securitization cash cow and nearly destroyed the global financial system when the knock on effects of the poorly understood and unregulated derivatives kicked in.
I’m thinking that the advent and demise of the RMBS capital pools and their interest rate advantages and relatively easier underwriting methodologies cannot be ignored in SFR price and liquidity levels over time. What are your thoughts?
I think those markets had some affects on the pre-2008 market, and probably added a few % points to aggregate home values. That boom and correction happened from 2004 to 2007. The failure of the CDOs, etc. initially was due to technical defaults based on expectations of future cash flows. The actual mortgage defaults were largely a lagging result of the collapse in collateral values that was related to the excess tightening in mortgage access in 2008 and 2009 that reached well into prime mortgages.
There were excesses, and there were aspects of the securities that affected the shape of the crisis. But, the crisis shouldn't have happened.
Why should there not have been a crisis? Real estate market liquidity disappeared virtually overnight along with the financial market’s near collapse. What are you seeing that I’m not?
The subprime markets were dead by mid-2007. The Fed should have been stimulating to induce a recovery in housing starts, which, by then, were well into a deep contraction. But, it was tightening at FHA, Fannie and Freddie over the course of 2008 that really caused most of the damage that we associate with the crisis. It was a late collapse in low tier neighborhoods in all cities, regardless of the pre-existing market conditions, that led to high mortgage defaults, vacancies, etc. after 2008.
My experience has been that interest rates are crucial elements in value determinations and market price changes. Geographic income variability is also a big driver in market price differences (like tech areas with higher pay scales vs. non tech areas).
The first question from SFR brokers is “let’s see what loan amount you’re qualified for.” If income is held constant the loan amount will vary widely depending on the interest rate with lower rates supporting much higher loan amounts. This in turn drives pricing higher, or lower, depending on timing.
There are similar effects in values from cash down payment requirements under different loan programs.
I have no doubt that it is important for individual projects. At the micro level, interest rates are strictly an input. It's a classic situation where macroeconomics isn't just the summation of a bunch of micro stories. At the macro level, interest rates are an effect as much as a cause, and so it's just a different model. I'm endlessly fascinated by the norm where the micro level experience plus an intuition that surely interest rates are causally important leads to public discourse where claims about the effects of interest rates on housing which have no quantitative evidence are routinely taken as axiomatic.
Honestly, nobody looking naively at a chart of treasury rates and home values would think for a second that there was a causal relationship. It's a strong conceptual claim with little empirical support. When I try to control for it, I typically find either no correlation, or actually a positive correlation between interest rates and home prices.
One of the mysteries that Greenspan and Bernanke talked about before 2008 was how mortgage rates never really increased in spite of the increase in their target policy rate from 1% to 5%. And home prices collapsed, and then continued to collapse with low interest rates during and after the recession. On the other hand, real long term rates have spiked up significantly after Covid, and home prices and construction activity have remained strong.
SFR subdivisions for rent are a complete anomaly in institutional investment programs. Hard to manage well, no uniformity of rental product, and an exit strategy that has not been well defined for an institutional or bulk SFR private investor. Dealt with many private investors who acquired SFR assets in bulk in the 1980 and 2006 eras. Easy to conceive but extremely hard to execute cleanly. Always!
There is an entire new house subdivision for rent a couple of miles from me. I’ll go down there and check it out when I get back from a trip to Alabama over the next several days. Hopefully they’ll give me rents, house sizes, absorption, etc.
It will be very telling for me to learn how they are pricing SFR homes in this market. My expectation is it will be aggressive. Ditto on rollover rents. It will also be interesting to learn how they address maintenance, lawn care, utilities, security deposits, security, etc. SFR’s and SFR tenants are very different than any other RE asset. Management is not very similar to typical institutional management programs, especially for management cost as a % of income including the requisite staffing levels.
I agree. It shouldn’t exist. The reason it exists is because about 1/3 of the traditional mortgaged homebuyer market has been locked out of the market, cities cap multi-fam supply, and rents went up until something could finally fill the gap, which is institutionally funded sfr.
Yes. Originally, yields were boosted by declining prices. Since families that used to be the buyers in those neighborhoods couldn’t be buyers any more, prices basically had to fall far enough for yields to attract private equity. So the initial activity was mostly in existing homes. Since those prices were too low to induce new building, for a decade, unprecedented rent inflation had to happen to bring rents up enough for private equity to pay enough for new homes to induce new construction. That has finally happened so new sfr is now rising.
Thanks Kevin. I’ll be away for a few days. We can continue when I’m back. Ken
This is a little off topic, maybe, but your statement that "It was a feast just waiting to be lapped up because there is no way that small time investors could buy up all the discounted properties. There just isn’t enough small-scale capital. Slowly, large-scale institutional capital eventually came into the space, and now, finally, prices have risen high enough that the large-scale buyers are purchasing new homes from the builders." reminded me of something I've always wanted to look at.
I was looking at a graph of housing starts going back to the mid 60's broken out into single-family and multifamily. The compressed graph emphasized how flat the MF start line became beginning in the late 80's which coincides with changes to the tax laws. Those changes impacted depreciation schedules and limited passive losses.
Before those changes most of the small apartment buildings and 4-duplexes, the missing middle, were mainly built as tax shelters and owned by small partnerships, mostly local. I remember reading that MF starts fell over 50% in years shortly after those changes.
My hunch is just like your statement about larger scale capital in the SF space, the same occurred in the MF space as a result. My hunch is also that it's not just zoning that limits the missing middle; it's lack of capital. Also, because of scale it's hard for a new 4-plex to compete with a new 200 unit apartment complex with full amenities.
It's a different world today.
On the margin, I think you’re probably on to something.
Really enjoy your analytical approach to housing markets, housing costs, and, in my mind, placing the blame for 2007-9 on the money side where it belongs.
Also, while I think I agree that locking institutional level investors out of SFRs is a good idea, the banking, house builder and investment lobbies will never stand for denying institutional ownership of SFR’s as long as the current neoliberal GOP, Investment Advisory, Lending Agencies and Fed groups are in control. Too much money to be made, as always, at the consumer’s expense.
If you think institutional investment in SFR is at the consumer's expense, then I don't see how you could like my approach to housing markets.
I don't think SFR should even be a sector. There is no natural reason for it to exist. But, if it is illegal to originate mortgages for millions of families that would live in them, somebody has to be the owner.
The popularity of the POV you expressed here scares me more than anything I have researched on this over 10 years.
Off to a rehearsal now. Lots to unpack all around. I’m a semi retired investment professional with more than 50 years experience with more than half of that in institutional RE investment.
The primary effects of CMBS and RMBS securitized pooling were a vast increase in available capital and LOWER effective interest rates under the modified Black-Scholes models used to create the pools. Because it was incredibly profitable and “relatively easy” to raise new capital through securitization the only remaining challenges were finding new “like kind” products to agglomerate and managing the derivative risks. But, the Subprime pools became the canary in the coal mine and effectively killed the securitization cash cow and nearly destroyed the global financial system when the knock on effects of the poorly understood and unregulated derivatives kicked in.
I’m thinking that the advent and demise of the RMBS capital pools and their interest rate advantages and relatively easier underwriting methodologies cannot be ignored in SFR price and liquidity levels over time. What are your thoughts?
I think those markets had some affects on the pre-2008 market, and probably added a few % points to aggregate home values. That boom and correction happened from 2004 to 2007. The failure of the CDOs, etc. initially was due to technical defaults based on expectations of future cash flows. The actual mortgage defaults were largely a lagging result of the collapse in collateral values that was related to the excess tightening in mortgage access in 2008 and 2009 that reached well into prime mortgages.
There were excesses, and there were aspects of the securities that affected the shape of the crisis. But, the crisis shouldn't have happened.
Why should there not have been a crisis? Real estate market liquidity disappeared virtually overnight along with the financial market’s near collapse. What are you seeing that I’m not?
The subprime markets were dead by mid-2007. The Fed should have been stimulating to induce a recovery in housing starts, which, by then, were well into a deep contraction. But, it was tightening at FHA, Fannie and Freddie over the course of 2008 that really caused most of the damage that we associate with the crisis. It was a late collapse in low tier neighborhoods in all cities, regardless of the pre-existing market conditions, that led to high mortgage defaults, vacancies, etc. after 2008.
Ahh…
My experience has been that interest rates are crucial elements in value determinations and market price changes. Geographic income variability is also a big driver in market price differences (like tech areas with higher pay scales vs. non tech areas).
The first question from SFR brokers is “let’s see what loan amount you’re qualified for.” If income is held constant the loan amount will vary widely depending on the interest rate with lower rates supporting much higher loan amounts. This in turn drives pricing higher, or lower, depending on timing.
There are similar effects in values from cash down payment requirements under different loan programs.
I have no doubt that it is important for individual projects. At the micro level, interest rates are strictly an input. It's a classic situation where macroeconomics isn't just the summation of a bunch of micro stories. At the macro level, interest rates are an effect as much as a cause, and so it's just a different model. I'm endlessly fascinated by the norm where the micro level experience plus an intuition that surely interest rates are causally important leads to public discourse where claims about the effects of interest rates on housing which have no quantitative evidence are routinely taken as axiomatic.
Have you plotted macro values against the 10 yr T as a proxy for market interest rates?
Honestly, nobody looking naively at a chart of treasury rates and home values would think for a second that there was a causal relationship. It's a strong conceptual claim with little empirical support. When I try to control for it, I typically find either no correlation, or actually a positive correlation between interest rates and home prices.
One of the mysteries that Greenspan and Bernanke talked about before 2008 was how mortgage rates never really increased in spite of the increase in their target policy rate from 1% to 5%. And home prices collapsed, and then continued to collapse with low interest rates during and after the recession. On the other hand, real long term rates have spiked up significantly after Covid, and home prices and construction activity have remained strong.
Has any of your research looked into how varying interest rates factor into price changes?
I have come to attribute little importance to them. When I try to control for them quantitatively, they never matter.
Now back.
SFR subdivisions for rent are a complete anomaly in institutional investment programs. Hard to manage well, no uniformity of rental product, and an exit strategy that has not been well defined for an institutional or bulk SFR private investor. Dealt with many private investors who acquired SFR assets in bulk in the 1980 and 2006 eras. Easy to conceive but extremely hard to execute cleanly. Always!
There is an entire new house subdivision for rent a couple of miles from me. I’ll go down there and check it out when I get back from a trip to Alabama over the next several days. Hopefully they’ll give me rents, house sizes, absorption, etc.
It will be very telling for me to learn how they are pricing SFR homes in this market. My expectation is it will be aggressive. Ditto on rollover rents. It will also be interesting to learn how they address maintenance, lawn care, utilities, security deposits, security, etc. SFR’s and SFR tenants are very different than any other RE asset. Management is not very similar to typical institutional management programs, especially for management cost as a % of income including the requisite staffing levels.
I’ll let you know what I learn.
I agree. It shouldn’t exist. The reason it exists is because about 1/3 of the traditional mortgaged homebuyer market has been locked out of the market, cities cap multi-fam supply, and rents went up until something could finally fill the gap, which is institutionally funded sfr.
Are you suggesting that SFR rents have risen to the point of inducing institutional investment in SFRs because of excess yield?
Yes. Originally, yields were boosted by declining prices. Since families that used to be the buyers in those neighborhoods couldn’t be buyers any more, prices basically had to fall far enough for yields to attract private equity. So the initial activity was mostly in existing homes. Since those prices were too low to induce new building, for a decade, unprecedented rent inflation had to happen to bring rents up enough for private equity to pay enough for new homes to induce new construction. That has finally happened so new sfr is now rising.