Home Rentership is Poised For Growth
by Keith Butler, President
BCS Placements, LLC
Registered Broker Dealer
keith.butler@bcsplacements.com
212-528-0852
MARKET OPPORTUNITY
After a decade of rental apartment values being coupled with condominium values, apartment values separated and traveled up 12% in 2010 while condo and single-family values declined two percent. This divergence at the beginning the new decade signaled that rental apartments were reestablishing their identity as distinct investments. In the wake of the damage left by overindulging on homeownership, an appreciation is emerging for value-creation that emphasizes apartments as well-managed and maintained rental communities that can deliver services and comforts that many people with Workforce Incomes are unable to afford in a home purchase.
This reassertion of the important role of apartments is timely for Crossbeam. We significantly increased our capabilities in 2010 through our merger with Concierge Asset Management in December. The merger will allow us to finance, redevelop and manage apartments using our integrated operating platform. Our value-add strategy targets the largest segment of market-rate renters, those with Workforce Incomes.
When Renting Began its Surge
From 1995 to 2005, homeownership was housing’s only growth engine. Homeownership rates climbed an average of 50 basis points per year. The number who left renting to become homeowners overwhelmed new renter household formations. From 2000 through 2004 the renter household population actually shrunk by 192,000. That all changed in 2005 when the first wave of carelessly underwritten mortgages, canaries in the mind shaft of the looming crisis, began to default. The second half of the decade was a mirror image of the first. The Census’ Housing Vacancy Survey showed the renter population growing from 33.16 million at the end 2004 to 36.27 at the end of 2009. After negative growth in the first five years, 3.1 million new renter households formed in the second five years.
In 2010, renter household formations grew by 802,000. The first two quarters of 2011 have seen blistering growth with about 675,000 new rental households for in the first two quarters. By June 30, 2011, the homeownership rate dropped 330 basis points to 65.9% since its peak in Q-4 2004 and 60 basis points since Q-4 2010. New renter household formations per quarter averaged 155,000 from 2005 through 2009. Since 2010 began, new renter household formations have averaged 246,000 per quarter and 337,500 per quarter in 2011. In 26 quarters since the beginning of 2005, about 4.5 million new renter households have formed. For Crossbeam, as an apartment investor, developer, redeveloper, and lessor this decade promises to be one of substantial opportunity.
Former Homeowners Become New Renters
In the six years from 2005 through 2010, the number of American households grew by about 3.0 million from about 109 million to about 112 million. During those same six years, the number of new renter households grew by 3.9 million, reflecting an important change in the demographics of renters: More than ever before, a large number of new renter households are being formed by former homeowners. Likely these people were over-challenged by their mortgages and forced into renting.. Since those with Workforce Incomes are on the lower end of qualifying for homeownership, it’s likely that many of these new refugees from homeownership fit Crossbeam’s target market. More mature and selective, it’s also likely these former homeowners will be drawn to professionally managed Rental Apartment Communities. Because of their credit histories they are unlikely to be able to depart from renting to purchase a house anytime soon, suggesting that apartment managers who meet the needs of this group will experience lower turnover rates.
Where Homeownership-Rentership Will find
Stability
The word
“homeownership” long has been a staple in our housing lexicon. Until recently, the word “rentership” was
hardly heard from, quietly defined by its better-known reciprocal homeownership
has long defined the American Dream. Rentership
and homeownership are counterweights in an equation that always adds to 100%.
Demographers assume that all households are doing one or the other, either
renting or owing.
Not only has
26 quarters of strong growth in new renter households given currency to word
rentership, but also several seemingly indelible American trends suggests that
rentership will continue to grow. At what percentages will the equation between
homeownership and rentership stabilize? We believe there are two credible forecasts on
the equation’s equilibrium over the course of this decade. Most forecasters agree that rentership will
continue to gain. The conservative
forecasters argue that laws of average will propel the equation back to 64% to
36%, its average from 1985 to 1995, the decade before overactive home lending
began to stimulate the homeownership’s extraordinary move. The rate had been
relatively stable in the low 60’s since record keeping began in 1965.
A growing
number of forecasters argue that there has been a paradigm shift since the late
20th century. For them, the belief that rates will stabilize at 64%-36%
is wistfulness for a bygone era. The
housing bubble, they argue, wrecked the creditworthiness of millions of
homeowners, forcing them into renting and wiping out their ability to qualify
as homebuyers anytime soon. Further, the
conditions that once allowed the homeownership rate to stabilize at 64% have been
changed by the negative affects of globalization on middle class wage growth,
the codification of tighter home lending standards in Dodd Frank Wall Street
Reform and Consumer Protection Act, and by demographic changes such as the
declining marriage rate and the growth in the percentage minority populations
with greater propensity to rent.
Also looming
are proposed changes in government’s role as a guarantor of home mortgage debt.
Large portions of the American middle class, especially those with Workforce
Incomes, have found banks more willing to lend because of the backstop provided
by Fannie Mae or Freddie Mac. If the
Obama Administrations proposals to wind down those agencies succeed,
homeownership for the American middle class will become less accessible. We have used a 62% homeownership rate as a
proxy forecast for this school, though many project rates that are lower.
New Renter Household Formations, Occupancy
Rates, Are Forecasted
We have
projected overall apartment market occupancy rates based on forecast of two
different stabilized homeownership rates, 64% and 62%, achieved over the course
of the decade from 2010-2020. The
homeownership rate has dropped an average of 50.7 basis points per year for the
last 6 ½ years through June 30, 2011. If decline continues apace homeownership
will breach 64% by the end of 2015 and 62% by the end of Q-1 2019. To smooth
our projections to the end of the decade, we have assumed the rate drops 22.4
basis points annually to 64% by the end of 2019 and 45.8 basis points annually
to 62% by the end of 2019. If household
formations are assumed to grow at 1.0 million per year, then new renter
households, from 2012 to 2020 will form at 638,000 annually under the 64%
homeownership forecast and 924,000 annually under the 62% homeownership forecast.
Assuming the
number of newly constructed rental units, not including condos, averages
258,000 going forward, the average for the last 20 years; that the number of
units demolished due to obsolescence averages 240,000 per year, in line with a
Harvard Joint Center for Housing Studies forecast; and that the inventory of
vacant rental units on December 31, 2011 was 4.28 million as reported by the
Census, America’s overall apartment occupancy rate will reach 100% in the years
as shown below:
Demand for New Developments
These
forecast suggests that there will be significant opportunity for new
development. If the homeownership rate drops 22.4 basis points per year, less
than half its average for the last 6 ½ years, America’s rental housing will be
100% occupied by the end of 2016. If the homeownership rate falls 45.8 basis
points per year, then America’s rental housing will be 100% occupied by before
the end of 2015.
There is
always the risk that excess supplies of single-family housing will be brought
into the market adding risk to new purpose-built multifamily rentals strategies,
especially when the single-family market is overbuilt, as in the late 2000’s.
Harvard labels this “tenure switching” or the act of using a single-family
house as rentals until a buyer can be found.
The chart below shows that from 2007 to 2009 about 1.4 million detached
single-family units were put up for rent.
While this tenure-switched supply gets picked up by the Census’ vacancy
survey, private surveyors of the multifamily vacancy rates do not include this
inventory in their surveys of vacancy rates for professionally managed
apartments.
The Advantages Scale and Professional
Management
According to
the Harvard Joint Center for Housing Studies, 55% of America’s rental housing
units are individually owned and that more than half of all rentals are in
small structures, including single-family homes, 2-to-4 unit buildings, and
manufactured homes. Often poorly capitalized, many individual owners perform
their units’ administrative and maintenance functions. About 30% of the individually-owned units
were acquired by as the owners residences, only 40% of these owners reported
making a profit the preceding year, according to Harvard’s survey.
This
describes much of the single-family inventory that finds its way into the
rental market. While this inventory
competes with Crossbeam in theory, it offers little practical competition. Our
competitors are other market-rate, professionally-managed Rental Apartment
Communities, a minority of the rental stock, which form a operate in a tier
that is distinct from individually owned operated apartments. The market perceives this distinction which
is best shown in the two-tiered vacancy rates in the chart below:
A Deeper Look at the Rentership’s Growth
For those
who want to take a deeper look at our rentership projections, we are providing
the sections below the rentership arguments made by economists, demographers
and students of government policy changes. We begin with the arguments of the economist,
at once the most readily quantifiable and the arguments that suggest the
largest growth in rentership,
Fallout From a Decade of Excess: Economists
Forecast Rentership
Ironically,
it’s America’s prior exuberance for homeownership that may propagate the most
new renters this decade. New York Federal Reserve Economists Andrew Haughwout,
Richard Peach and Joseph Tracy began a school of critical thinking on this
subject that has since been picked up by economists and Goldman Sachs and
Morgan Stanley. In a seminal 2009 paper, the Fed economist argued that
mortgagees with negative equity loans were likely to end up as renters. Not all of them will, but many of them
will. The Fed economists argued that Q-3
2009’s homeownership rate was effectively closer to 63%, 460 basis points below
what had been reported by the Census at that time.
A similar
perspective on the homeownership rate was given by the Goldman Sachs U.S.
Economic team in a note published April 29, 2011. “Although the outlook for the
homeownership rate is quite uncertain, we believe that a continued decline
remains the most likely outcome. For one thing, the homeownership rate remains
substantially above its pre-housing bubble level” which averaged about 64% from
1985 to 1995. Another factor is that
“much of the mortgage finance infrastructure that sparked that increase
has yet to return. It is difficult for many prospective homebuyers to find
equally attractive terms today. “
“Our forecast is consistent with research by the Federal
Reserve Bank of New York, “ continued Goldman. “Many current homeowners will
likely convert into renters over time, so subtracting negative equity
households out of the homeownership rate may provide guidance on where the
official rate is likely to head over time. As of the end of 2009, this exercise
implied an "effective" homeownership rate excluding negative equity
households of 61.6%. The actual rate is likely to move toward the effective
rate in the future.”
Even more
recently, Morgan Stanley borrowed from the Fed economists’ analytical approach
to forecasting the homeownership rate.
In a July 20, 2011 report Morgan Stanley’s Oliver Chang wrote that
America is moving toward a “rentership society”. Chang focused on mortgage delinquencies
rather than negative equity, though the two may substantially overlap. He noted
that if the bulge of $7.5 million delinquent borrowers were removed from the
homeownership rolls the homeownership rate would drop to 59.7%, placing the
rentership rate at 40,3%, easily its highest level ever. http://www.bloomberg.com/news/2011-07-20/u-s-moves-to-rentership-society-as-owning-tumbles-morgan-stanley-says.html
Demography:
America’s
demography does offer less support for homeownership today than in the era from
1965 to 1995. Singles predispose toward renting by about 30 points over married
couples, 50% to 20%. Similarly, minorities predispose toward renting by about
30 points over whites, 55% to 25%. Both of these renter populations are growing
as a percentage of the American whole.
Marriage rates were down to about 48% of U.S. households in 2010, having
dropped from about 55% in 1994. http://www.nytimes.com/2011/05/26/us/26marry.html?ref=census.
The larger body of singles today, when measured against their tendency to be
renters, adds 220 basis points the percentage of rentership when compared to
1994’s marriage rates. In theory, the 1994 rentership/homeownership rates of
64%/36% would project to 61.8%/38.2% to account for the new marriage
demographic.
The other
influential demographic change is the growth of the minority population as a
percent of the American whole. According to the 2010 U.S. Census, of 27.3
million people added to the U.S. population between 2000 and 2010, only 2.3
million were non-Hispanic whites, representing 9% of total growth. This is a significant change from the 1990’s
when non-Hispanic whites represented 20% of the growth. With their 30 point higher propensity to
rent, an increasing minority population will propel the need for more rental
units. http://www.brookings.edu/opinions/2011/0325_census_demographics_frey.aspx.
Pew Research measured at the affect of these growth rates on the ethnic make-up
of the country. Pew concluded that the
Millennial Generation, from ages 18-29, was 61% white and 39% minority. In contrast, the population of adults above
30 years old is 70% white and 30% minority.
As they form households, this larger percentage of Millennial Minorities
will lower the homeownership rate, and raise the rentership rate, by 250 basis
points if they continue to favor renting at the same rate above whites. That
would move change the 1994 rentership/homeownership ratios to 38.5%/61.5%.
Government Policy Begins to Emphasize Middle
Class Renting
Still in its
early stages is a well-received report, “Reforming America’s Housing Finance”
was submitted in February 2011 to Congress by the Department of Treasury and
the Department of Housing and Urban Affairs. http://www.treasury.gov/initiatives/Documents/Reforming%20America%27s%20Housing%20Finance%20Market.pdf
Reeling from
the $135 billion spent honoring Fannie Mae’s and Freddie Mac’s guarantees, with
more to come, the Obama administration’s report concludes that Fannie and
Freddie are no longer affordable. It is a momentous shift that is likely to
affect American’s access to government guaranteed home mortgage credit. On February 11, the New York Times
characterized the report as an “audacious call for the federal government to
cut back its broadly popular, long-running campaign to help Americans own homes.”
The story went on to say that administration officials “concluded the country
could no longer afford to sustain its commitment to minting homeowners. Better
to help some people rent.”
These
proposed policy changes taken together with the economist calculations of
defaulted overburdened borrowers and the demographers observations of the
impact of cultural and ethnic changes in the American population, suggest
significant long-term trends. According to the New York Times, “Federal programs subsidized nine in 10
mortgage loans made last year. If the Obama administration succeeds, that could
plummet to a mere one-in-10 loans by the end of the decade, “ reported the
Times. “Investors also may be reluctant to provide money for 30-year fixed
mortgages, a product that has never existed without government support “
America’s Rental Housing Supply
According to
the biennial “America’s Rental Housing”
study released in April 2011 by Harvard University’s Joint Center for Housing
Studies, there are 240,000 apartment units demolished each year and an average
of only 300,000 purpose-built multifamily replacement units constructed. Only
about half the newly constructed units are aimed at the market that Crossbeam
targets. “Market-rate rentals accounted for little more than half of the
300,000 new multifamily units completed each year from 1995 through 2009. Of
the remainder, 23 percent were assisted rentals produced through the Low Income
Housing Tax Credit program and the other 24 percent were intended for sale as
condominiums.” An accelerant to the loss
of rental units is the age of the rental stock.
“As of 1989, the median rental-housing unit was 26 years old. By 2009,
the median age stood at 38 years,” writes Harvard.
Purpose-built
condominiums have averaged 72,000 units over the last 15 years. Subtract those from the 300,000, and annual
demolitions exceed average annual purpose-built multifamily units by
12,000. In a market that’s been
inundated with almost 4.0 million new renter households from 2005 through 2010,
where have all the needed rental units come from? The answer, says Harvard, is the
single-family housing market. “The pace of net conversions from owner to renter
tripled in 2005-2007 relative to 2001-2003, then nearly doubled again in
2007-2009 to 1.9 million units. Single-family detached homes were the driving
force, accounting for three out of every four conversions to rentals between
2007 and 2009. http://www.jchs.harvard.edu/publications/rental/rh11_americas_rental_housing/AmericasRentalHousing-2011.pdf
Fragmented Competition Is A Competitive
Advantage for Crossbeam
The
market-rate, professionally-managed Apartment Communities that Crossbeam
develops or re-develops are the minority of the rental stock. Harvard point out
that 55% of rental units are
individually owned. Further, “more than
half of all rentals are in small structures, including single-family homes,
2-to-4 unit buildings, and manufactured homes,” observes Harvard. These individuals often perform
administrative and maintenance functions themselves. About 30% of these individually-owned units
were originally acquired by these owners as residences, according to a 1995
survey referenced in the Harvard report, the latest data available. Only 40% of these owners reported making a profit
the preceding year. “With a significant
share of the individual owners under financial pressure,“ writes Harvard, “it
is no surprise that 24% of those owning sing-family detached rentals reported
some degree of deferred maintenance, as did 19% of those owning properties with
2-4 units.”
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keith.butler@bcsplacements.com | 212-528-0852
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keith.butler@bcsplacements.com | 212-528-0852
