Transcript
Dean Wehrli:
Welcome, everyone to yet another episode of New Home Insights by John Burns Real Estate Consulting. I’m your host Dean Wehrli. Today, we have another extremely special, maybe almost too special, of a guest. Rick Palacios. Rick, say hi.
Rick Palacios Jr.:
Hey, Dean. How are you?
Dean Wehrli:
I’m good. Today, we’re going to talk with Rick about single-family rental, the market, the sector, the shape of it, where it’s going, what’s happening, what kind of insights do we have about single-family rental? So, let’s start off with one of the, I guess, misconceptions is that single-family rental has been around for a very long time and it’s maybe a bigger part of the market than folks realize.
Rick Palacios Jr.:
Yeah, I think, and this is fresh for me because I was just out at… There’s now an industry group that is formed around single-family rental space called the National Rental Home Council. So, I was out in DC for their first-ever event, talking through some of these things. I think what they are trying to do is exactly what you just brought up is to overcome some of these misperceptions. And I think everybody has really focused in on the institutional investors that have come in over the last probably decade or so, and driven a lot of the press. But the reality is that those guys are really just 1%, maybe one-and-a-half percent, of the 16 million single-family rental homes across the country. So, ton of press, ton of headlines, a lot of it sometimes negative, but the reality is, it’s just such a small fraction of the market.
Rick Palacios Jr.:
And then the other thing too is that, to your point on how this industry has been here really forever, if you look at just the market share of rental homes across the country, single-family rentals have been between 30 and 35% of all rental properties for the better part of 50, 60 years. So, it’s not new, it’s just that some of the names that are getting involved in the industry are new.
Dean Wehrli:
So, it’s really been dominated by the moms and pops who have…
Rick Palacios Jr.:
Yeah, so, we’ve got some interesting stats around this. So, when you say mom and pop, I think a lot of people think owners that have maybe one to two properties that they’ve just held onto. And so, again, of that 16 million pie, single-family rental homes, 80% are owned by people that have just one to two homes that they’ve got as investments and renting out. Another 9% are for people that own three to five homes. So, you look at that and 90% of the market is owning between one and five homes. Again, that surprises a lot of people because you never really hear about those stats. You only hear about the private equity names that have come into the space and gotten more involved.
Dean Wehrli:
Do you have any stats on what proportion of single-family rental are used to grow weed? Any insights?
Rick Palacios Jr.:
So, I think if you maybe talk to some of our consultants up in Portland, Denver, they may be able to have some of that insight.
Dean Wehrli:
I see you picking on Portland and Denver.
Rick Palacios Jr.:
Yeah. A lot of… It’s legal in California now. So, I don’t know. Maybe up in the Bay Area, you’ll be able to get some color for us on that.
Dean Wehrli:
I want to immediately apologize to all our Portland and Denver listeners right now for Rick. Rick said it. I just led him into it. So, do you see though a growth trajectory for those larger institutional buyers to… One and one-and-a-half percent of the market share, I mean, is that inevitably going to go up?
Rick Palacios Jr.:
Yes. I can say matter of fact, it is going to go up. I think what those groups have found is that, as it’s just an insanely fragmented industry that they have been able to come in and bring operational efficiencies to. And a lot of that too, I think, the presence of institutional investors and now, companies like Invitation Homes, American Homes 4 Rent, Tricon American Homes, owning between 10,000 and up to 80,000 homes. What has really allowed for them to do that is just the technology that exists, cloud computing, and being able to do everything on your phone, apps. If those things weren’t here, they would not have been able to come in and add value into the marketplace.
Dean Wehrli:
Yeah. So, they really treat it like they were a large apartment owner developer. It’s just, their units are not in complexes. They’re dispersed around various metro areas.
Rick Palacios Jr.:
Exactly. That was the pushback that they got from investors and those that were skeptical on, you cannot replicate what the multifamily space did. And I think what they realized is, “Yes, we can. And the way that we’re going to do it is by leveraging technology that hasn’t existed.” So, you can take, like you said, homes that are miles and miles apart, cities apart, and be able to replicate a model that is very similar to what the multifamily space has done.
Dean Wehrli:
I’m going to ask you in a minute about that. Let’s stay for a second here. Let’s stay on the other end of it. So, in terms of the growth and market expansion, do you see not just the share from the institutional players growing? Do you see the whole sector as a whole growing?
Rick Palacios Jr.:
Yeah, I think so. I mean, what we’ve seen too and it also, if you were to rewind the clock 10 years, 15 years, if you were looking to rent a single-family home, you had to do it through platforms like Craigslist, or looking in the newspaper.
Dean Wehrli:
Or driving around.
Rick Palacios Jr.:
Driving around. I mean, that seems insanely archaic now that you think about it.
Dean Wehrli:
It is.
Rick Palacios Jr.:
Versus now, you Google, “Rent a home in any city” and these groups that we just talked through all come up immediately. And the user interface is insanely simple. It’s very similar to if you go on a home builder’s website, large home builder, you can click through the different cities across the country where they have homes, look at the homes. So, the simplicity of it all has just gotten so, so much better, which I think for us gives us confidence that directionally, you’re going to see increased market share for single-family rental.
Dean Wehrli:
But the mechanism, I guess, will have to be them since the owners are… Originally they grew by buying a lot of the distressed properties. Right?
Rick Palacios Jr.:
Yep.
Dean Wehrli:
Now, it’s a much slower process and it is essentially buying from… Is it mostly buying from the mom and pops? Is that how they’re growing?
Rick Palacios Jr.:
Yeah, so, there is not a lot of distress in the market. I mean, that is one of the reasons that the institutional investors were able to come in, as they saw a massive investment opportunity and being able to buy thousands and thousands of homes below replacement costs, back in the depths of the downturn. And now, a lot of that distress has gone out of the marketplace, aside from maybe if you’re in some of the judicial states where they’re still seeing foreclosures come through because it takes forever. So, they are having to go to the traditional MLS to look for inventory.
Rick Palacios Jr.:
The issue there, as a lot of people listening to this probably knows, that there is not a lot of resale supply across the country. I think there’s about three months of supply. And if you drill down below the median home price, because a lot of the single-family rental operators want to go to below median home price for the properties that they’re purchasing because it allows them to get a yield that makes sense. The inventory levels are shaved in half for those price points, so it is becoming increasingly hard to come across organic ways of growing their platforms, which is one of the reasons why we’ve seen more of a push into what we’re calling the bill for rent space.
Dean Wehrli:
Bill for rent space? Okay. Let’s come back to that in a minute also. Do you see, though, is there the potential to have a little bit of a backlash from buyers at large? Because to some extent, these institutional, if they’re going after the same homes, especially at the entry-level niche, are they going the same homes for those buyers who are looking for affordable product are going for? Is there any possibility, you think, of having some kind of political repercussions?
Rick Palacios Jr.:
I mean, I think you could make the claim that yes, there is supply that is getting sucked out of the for-sale market because of the continued emergence of the single-family rental asset class. But at the same time too, I mean, going back to our comment on how institutional investors are 1% of the overall market, you go into a market like Atlanta, which I think is probably the poster child for the single-family rental industry. It’s the biggest market for most of the institutional names in this space, one of the markets we saw a ton of distress during the downturn. In a market like Atlanta, it’s still only 5% of all single-family rental homes are owned by the institutional investors, so.
Dean Wehrli:
Yeah. But don’t they have the potential, right? You can see… I have already heard whispers that, “Oh, that’s one of the reasons we are so strapped for inventory in the reseller environment is because the single-family home folks bought up all that distress.” Just politically, you could see those folks being more convenient targets for that kind of antagonism. The mom and pops aren’t, they’re so dispersed and diverse. But the big institutional single-family guys could be.
Rick Palacios Jr.:
Yeah, I think, again, also because of the bad press that’s been written around it. I mean, I think there was a panel recently where the title of it was “Wall Street, Your Landlord.” But I mean, the reality though is that, I have a lot of friends that are in their mid to late-thirties that are homeowners and they are falling into these mom and pop investors. And I think an increasing amount are where their primary house, they’ve bought and they’ve got it at a three-and-a-half percent mortgage rate. They’ve paid off a lot of the principal on their mortgage. And when they go to move into a move-up home, they’re going to keep their existing home as a rental property because they realize that they’re able to have that low mortgage rate. So, I think that, again, just in terms of who are the culprits here, it’s really the mom and pops that are driving this industry.
Dean Wehrli:
So, that would argue that the mom and pops are going to be just as much a part of the overall growth in single-family rental as the institutional.
Rick Palacios Jr.:
Exactly. Exactly. Yeah.
Dean Wehrli:
Let’s talk about the sort of the motivations. Why are users, renters in this case, renting single-family? Both positive and negative.
Rick Palacios Jr.:
Yeah, so, I think that one of the primary drivers for this is that, coming out of the downturn, there were a lot of people that foreclosed, had a delinquency, and just could not purchase a home even if they wanted to. So, what do you do if you’re at that life stage where you have children, want to be in a school district? And so, what we’ve seen is that the single-family rental operators are prioritizing being in those communities where they can offer homes that are in those good school districts. So, you create an option that really didn’t exist for that person that still wants to stay in that school district. And so, that’s, I think, one of the big, big drivers for the industry.
Rick Palacios Jr.:
I think the second part too is that, we increasingly hear that the consumer wants flexibility, and so they may not want to be burdened with a mortgage knowing that they’re job-hopping and they’re pushing their careers. And so, being able to go and find a home to rent and have it be such an easier process than say maybe 10, 15 years ago, it allows them to have that flexibility to where maybe it didn’t exist before. I think flexibility is probably one of the biggest components of it.
Dean Wehrli:
So, you can see them competing with the for-sale sector, right? That family, that they’re a renter, they’re starting to have that life stage, so they’re going to move to the suburbs, let’s say, so they can rent in the suburbs with that great school district if they’re not ready to buy in the suburbs.
Rick Palacios Jr.:
Yeah, I hear people… I do think that yes, there is a component of that too, that maybe in some ways, they’re taking people from the for-sale market. But at the same time too, I mean, a lot of the stats that we follow on say, the percentage of people that are renting a single-family home that then go to move out to buy a home, those statistics don’t really change massively. I think the big operators that we talk to and that report this, it’s about 30% or so of their tenants are going to buy a home. And it stays around that. It doesn’t change massively.
Dean Wehrli:
How about, okay, so let’s go back into the other end that we’ve touched on a minute ago. What are some of the, I guess, just the advantages, the positives from being a single-family rental actor and developer? You mentioned technology. What are the other things, I mean, expand on technology perhaps, but what are other things that are making it easier?
Rick Palacios Jr.:
Yeah. So, one of the things that has stood out, and it sounds like such a no-brainer now that you think about it, is obviously, we pay a lot of very close attention to what’s going on in the home builder side and for sale. And one of the things that the rental operators have been doing since the get-go is something as simple as allowing people interested in looking at their properties to access them 24-7, for the most part. And the way that they’ve been able to do that is by putting lockboxes or key codes on the homes. So, Dean, you want to go out and look at a house, they will send you a code. I believe you have to give them your credit card, so that you don’t go into the place and tear it up, which you might do.
Dean Wehrli:
I might. A couple of… Twice, Rick, twice.
Rick Palacios Jr.:
Twice. Okay.
Dean Wehrli:
Okay? That’s-
Rick Palacios Jr.:
I think three times and they don’t let you do it anymore.
Dean Wehrli:
That’s fair.
Rick Palacios Jr.:
So, something as simple as that, just from a consumer standpoint, allows them to do it much easier. And it’s interesting. When I was out in DC this week, went and met with a home builder on my second day there, and they are now rolling this through as a trial in some of their projects. So 24-7, consumer can go and look. And so, that is just such an easy thing. That makes total sense because as you know on the home building side, sales offices are open, what, 8 AM, 5 PM?
Dean Wehrli:
Yeah. The wrong hours and not enough of them.
Rick Palacios Jr.:
Yeah. Because-
Dean Wehrli:
And resell agents have done the lockbox thing forever, so.
Rick Palacios Jr.:
Yeah. Because as a consumer, I mean, as the profile that’s buying your homes on the builder side, you hope they have jobs. And if they have jobs, they probably can’t get there between the working hours for the most part.
Dean Wehrli:
Exactly.
Rick Palacios Jr.:
So, those are the simple things that we’ve seen.
Dean Wehrli:
So, a lot of it is going to be technology, but also just the ability to just… I mean, that does make it more difficult, and they have to figure out ways. I mean, to the degree it’s different from apartments. It’s the dispersion, the physical dispersion of their product, quote-unquote, versus apartment. So, having these lockboxes.
Rick Palacios Jr.:
Yeah. So, you bring up a really good point. One of the other things that really makes sense for this industry is scale. And so, operational leverage, so you don’t want… So, it’s hard enough having your homes miles and miles apart. And so, in order to really make this business work, and we’ve seen this with some of the consolidation in this space, is that you really need to hit a threshold of scale at an MSA level for the larger guys for this to really get dialed in operationally. So, I think we’ve heard at least several thousand homes in an MSA, to where they can really get things dialed in operationally and hit the returns that makes sense for them.
Dean Wehrli:
That’s a good segue then to the other flip of the coin is, what are some of the challenges or drawbacks to this sector as an operator?
Rick Palacios Jr.:
It’s the things that any landlord has experienced. I remember a few years ago listening in on some of the earnings calls for the public guys. And they were talking about how simple things like their… They had abnormally warm weather in a region that they had exposure to, and the grass died, en masse across thousands of properties. So, that was an operational cost that they couldn’t really model in. And so, they had to convey that to their investors. So, those are some of the pain points that, as a landlord, you experience, but then multiply that by 80,000 homes. And I say 80,000, that’s the largest operator. So, that wasn’t for all of them, but.
Dean Wehrli:
Thousands of homes.
Rick Palacios Jr.:
Thousands of homes.
Dean Wehrli:
Hundreds in a metro area, yeah.
Rick Palacios Jr.:
Yeah. So, I think that the hardest thing for them really is predictability and visibility around operating costs, going forward. And so, one of the other things that we’ve noticed more and more doing is going from say, when they have to turn a home. So, a tenant leaves, there may have been carpet in it initially and so, what we’re noticing is that more and more of the larger operators are tearing out carpet just because of the cost of having to do it over and over again are cumbersome. And so, they’re switching to more hard, resilient flooring throughout the entire house.
Dean Wehrli:
That’s a win-win. Right? The tenant is going to view that.
Rick Palacios Jr.:
Oh, consumer loves it.
Dean Wehrli:
They love that and yet, it’s actually a cost win-
Rick Palacios Jr.:
Yeah.
Dean Wehrli:
For the operator as well. That’s a good idea.
Rick Palacios Jr.:
Yeah. Because so, upfront for an operator, yes, costs more, but it allows them to model in consistency in their operational costs.
Dean Wehrli:
And again, they can market it like this. “Just because we love you.”
Rick Palacios Jr.:
Yeah, yeah.
Dean Wehrli:
“Goodness of our hearts.”
Rick Palacios Jr.:
So, I mean, really, that it’s. But think about mom and pop landlord. That’s why also, I think there’s a lot of advantages with the institutional people coming into this space because they’re thinking along those lines. Whereas, a mom and pop landlord, a lot of times, is not really the best landlord.
Dean Wehrli:
Are they’re not having that kind of a long-term view or that kind of a scaled view. So, they’re not going to… They have three homes. They’re not going to replace all of their homes with hardwood because they think that the tenant’s going to be there for years. It’s not something they…
Rick Palacios Jr.:
Yeah. And they’re trying to minimize, minimize, minimize the cost that they have to shell out for their tenants. A lot of times, you get slumlords, I’m sure, in those situations. And there’s one story that I remember. So, Hurricane Harvey last year in Houston, one of the larger operators in this space owns thousands of homes, publicly traded, and they were able to almost immediately go in, infuse millions and millions of dollars into the homes that they had tenants in to fix and improve things that you’re not going to see that from a mom and pop rent.
Dean Wehrli:
Certainly not en masse.
Rick Palacios Jr.:
Yeah. No.
Dean Wehrli:
Hit and miss, yeah.
Rick Palacios Jr.:
Yep. So, there’s definitely advantages.
Dean Wehrli:
How about any just sort of key insight you see in the single-family world that we haven’t talked about?
Rick Palacios Jr.:
Yeah, no, I would say that one of the emerging areas, especially from an acquisition channel perspective, I know we were talking about earlier how it’s getting harder and harder to find supply to add in their portfolios. One of the things that we’ve noticed probably over the last year or two is that there has become a trend of the larger single-family rental operators building new product to go into the rental market to add to their portfolios. We’re also noticing an increasing amount of home builders across the country that are selling some of their homes to these rental operators to add into their portfolios. And there’s a win-win for the builders as well as the rental operators that are doing it, from what we’ve found.
Dean Wehrli:
So, two prongs to that and for a quick list, let’s look at build to rent. Is there any… I mean, I won’t say who but there is the potential there, when the builder executes that and does in a community, as a build to rent that they’re not really prepared for, essentially, the rental world, the churn rate in terms of the tenants moving out and so on, and the upkeep for every time someone does move out. Do you see that as a special challenge for those?
Rick Palacios Jr.:
So, I think when you think along the lines of a large home builder that may have done it on a one-off, yes, I totally agree. But I think what we’re seeing is that these are rental operators that are building new, and their specialty as a business is renting those homes out. And so, what we’re finding is that they’re, I would say, more prepared for some of the headaches that you may have come across on the consulting side on some of these one-off things that have happened across the country.
Dean Wehrli:
So, are they going to staff up, they’re going to hire folks from the apartment world, presumably in terms of management and in terms of the metrics they need to study and things like that?
Rick Palacios Jr.:
Yeah. So, they’re following a lot of the metrics and analytics that the multifamily world has followed. And I mean, to now, to the point where we’re seeing fully amenitized single-family for rent communities in a lot of the major markets in the country.
Dean Wehrli:
Are they using YieldStar to set their rents? And what’s the other one? I can’t… Oh, my God. As a consultant trying to get comparable rents, we hate you, YieldStar. I totally get it, but it makes our life a living hell.
Rick Palacios Jr.:
Yeah. So, I think one of the… We hear little anecdotes all the time about the benefits for builders doing this, benefits for rental operators doing this. One of the more interesting things that I heard a few weeks ago from a home builder that is selling homes to the rental operators is that, if they know going into a land deal that their sales rates are going to be significantly higher than their competitors because they’re baking in, say, up to 10% of that community being taken down by a rental operator, that they can go and underwrite two assumptions that none of their home builder competitors can, which allows them to get that deal.
Dean Wehrli:
So, we’ll see those relationships start to form between institutional and new home builders?
Rick Palacios Jr.:
Yeah.
Dean Wehrli:
Will the new home builders just have to be a little bit careful about perceptions in that community? Fair or not? It’s usually not fair, but.
Rick Palacios Jr.:
Yeah. Well that, I think that is the issue that there is that perception, the renter stigma, but I think what we say to that, and we’ve done the research around this, is that 10 to 15% of most new home communities are already having renter tenants in those homes.
Dean Wehrli:
And aren’t their income profiles often exactly the same?
Rick Palacios Jr.:
Yeah. $100,000 income. Yeah, that’s the other stat that I think surprises a lot of our home builder clients is that for some of the public rental operators, the household income for their tenants is $100,000. Yeah.
Dean Wehrli:
Anything else you want to… Have we covered single-family rental… I hope for you, the listener, we’ve covered single-family rental adequately, if not better. And as for folks in Portland and Denver, we did talk about weed, so you’re welcome to rewind back to that.
Dean Wehrli:
Let’s recap real quick on single-family rental. I mean, it’s a perhaps surprisingly large segment of the market already. It’s dominated not by the big institutional players but by the mom and pops. Yes, we think institutional players are going to grow, but a big chunk of the growth is going to be from more mom and pop ownership in the single-family rental sector as well. The users are both. They’re both because in some reasons, they have to be in the rental landscape, but other times, it’s about flexibility and about controlling costs and about not… Just convenience too, I think. And also, what’s a big part of what makes it easier to be a single-family operator is technology, and being able to do things that you couldn’t do even 10, 15 years ago. And last, that we do see this emerging sector of build to rent going forward. I think that’s going to be a bigger part of the landscape there as well. Rick, appreciate it.
Rick Palacios Jr.:
Yeah, thank you, Dean.
Dean Wehrli:
Very insightful. Which is good because our name here is New Home Insights Podcast, so that’s important to do that.
Rick Palacios Jr.:
There you go.
Dean Wehrli:
Well, you can find us on our website RealEstateConsulting.com. We also have a Twitter @JBREC. I think you can also find us on MySpace and AOL, and I believe Prodigy.net. Where else, Rick?
Rick Palacios Jr.:
Can you download the podcast on Napster?
Dean Wehrli:
Napster? Yes. We’re on Napster as well. I think we are. So, thanks for listening. Until next time.
