The Wrongologist

What’s
Wrong Today:

Most
rental houses in the US are owned by individuals, or local businesses,
but a new breed has emerged: Wall Street-backed investment companies with
billions of dollars at their disposal, while having no problems trying to find insurance for landlords either. In
just the last two years, large investors have bought as many as 200,000
single-family houses and are now renting them out.

This incursion
by hedge funds and private equity groups into the American single-family home
rental market is unprecedented. Prior to the real estate meltdown in 2008, most
rental properties were owned by individuals or small real estate investment
companies. After the crash, many of those foreclosed houses have been purchased
by investors, but are these investors actual landlords with experience or do they have experienced landlords manage their properties for them? Many of these properties are rented out by those who have taken the time to read a great out of state real estate investing guide, and are fairly rented out, but many are handled in less favorable ways. Either way if billionaires are leasing properties out, there will be many leases they have to handle, which would be made much easier with a lease agreement template from associations like AAOA and more.

Three firms
? American Homes 4 Rent, Colony American and Invitation Homes ? have spent more
than $12 billion buying and renovating more than 75,000 homes in order to rent
them out. Now, American Homes 4 Rent is about to “Securitize” the leases it
holds. Remember Securitization? Securitization of the mortgages of single family homes was the
primary reason we had the economic crash in 2007, the crash that brought with
it such high unemployment, much of which is still with us today.

This time,
the securities – if you can call them that – are backed by rental payments on
single-family homes that are, hopefully,
rented out, and will, hopefully,
stay rented out.

According
to the New
York Times, the
latest company to test the frontier in securitization is American Homes 4 Rent
(AMH). The company talked to
prospective investors at a conference in Las Vegas last week about selling
securities tied to $500 million of debt. Apparently, the bonds will be underwritten in March by Goldman, Sachs.

The idea is to
package the leases signed by the home renters into a security backed by the
stream of rental payments to be paid by those renters, and sell the security to
investment groups and individuals. The private equity giant Blackstone Group,
backer of Invitation Homes, sold the first single-family rental securitization
of its kind last fall, a $479 million bond, attracting six times as many
investors as the private equity firm could accept.

Rental lease securitization
could provide a pick-me-up to Wall Street’s mortgage-backed business. Bankers
estimate that single family-rental bond deals could total as much as $7 billion
this year and eventually grow to about $20 billion a year. From Bloomberg:

For landlords like
American Homes 4 Rent, securitizing debt would provide them with more leverage
to buy more homes. It would also increase their profits by lowering their
borrowing costs. And with securitization, landlords could put as
little as 25% of equity into their properties, while borrowing the rest. Credit
lines from banks typically require 40% equity.

In many
markets where these mega-landlords bought vacant single-family homes, like
Phoenix or Las Vegas, prices have jumped 25% or more in just one year. But
these price gains may be ephemeral. If (when) home prices drop to where they
were a year or two earlier, and if occupancy isn’t high enough to service the
debt, these securities could turn into toxic waste.

The next
step will be to move down-market and offer this kind of securitization to all single family rental
investors, including mom-and-pop investors, and other small and
large investors. Cerberus Capital and Blackstone are already working on
offering similar programs to them.

In the
end, these rentals could all be packaged together, sliced into different tranches,
and sold indirectly to unsuspecting pension fund participants. Just like in
2007. All based on the unreliable income streams from rentals.

The impact
of this vulture capital buying program has been showing up in the housing numbers
for months. Purchases by first-time
home buyers ? the crux of the housing market ? dropped to just 27% of all purchases in December 2013, from 30% in
December 2012, and from the 30-year average of 40%.

It is the
lowest recorded in the data series going back to 2008. First-time buyers
have been pushed out by higher home prices, higher mortgage rates, and a flood
of cash buyers (in Florida, 62.5% of all buyers) many of whom are
investors.

If
you were around in 2008, you know the drill: The bonds will be AAA rated by the
rating agencies that are compensated by Goldman and the other underwriters. The
bonds will be sold to those seeking high yield without commensurately high
risk. The deal documents will not be read. Goldman salespeople will travel
around the globe finding suckers to buy the paper and get big commissions. The
investment banks will short the bonds in the interest of risk management. American
Homes 4 Rent executives will pocket incredible bonuses, move their primary
residences to a tax haven state like Florida or Nevada, and be retired from the
business before you know it.

Any
predictions on how this turns out?

How
nice that Wall Street is now buying back homes they first financed then turned
into worthless Mortgage Backed Securities (MBS). Now they are buying them back
and renting them back to same folks they foreclosed upon.

The
saying in real estate used to be: “You
can’t get hurt if you own the dirt”. One reasonable conclusion is that fewer
Americans will ever own the dirt.

Capitalism
must be refined and modified, or we will continue to see fewer owners and more
who will be renters from cradle to grave.