Shifting interest rates and general concern over how a hawkish Fed will impact the financial markets have affected the housing market, unearthing opportunities for investors to enter the single-family housing space. Last season's interest rate hikes and sky-high prices stalled many would-be owner-occupants—particularly in younger generations—directing their attention to the rental market instead. But these tenants don't want to compromise on the desirable space, privacy and safety of houses, leading to increased demand for single-family homes. The savvy investor may see plenty of opportunities to take advantage of a paused market and enter the sector at discounted rates, despite a potential housing crash.
This article breaks down the history of SFRs, investors' role as the housing market shifts in a post-Covid landscape, and what and where opportunities lie for those looking to capitalize on the sector.
The history of SFRs
Single-family rentals are residential properties operated by owners who lease the space to rental occupants. Rather than occupying the house, owners rent the property to tenants to generate rental income. A single-family rental portfolio (SFRP) refers to a group of such properties purchased in a single transaction or collected over time. It's estimated that single-family properties represent approximately 50% of the overall rental market, with 23 million units in the United States.
Historically, single-family rentals were either owner-occupied or managed by a mom-and-pop landlord, who usually owned a few such properties. Today, however, a surging percentage of single-family homes are owned by institutional capital, who've bought up blocks, renovated them and rented them out to tenants.
This shift first occurred in the aftermath of the 2008 housing crisis, when thousands of properties suddenly came to market when the banks foreclosed on their former owners. Wall Street and other institutional-sized investors jumped on the opportunity to buy at a discount, aided by federal government initiatives in 2012 to revitalize communities and otherwise empty houses. Their investment paid off, as the asset class has outperformed many residential and other commercial real estate sectors in the last 15 years.
What changed in the housing market
The sector's success is partially attributed to changing attitudes and financial health among younger populations, namely Millenials and Gen Z residents. While rentals were rising considerably in tenant demand before Covid-19, the pandemic hastened the trend toward rental properties. Home prices and interest rates have shot sky-high in the last few years, but wages have failed to keep up with inflation. And as people realized the need for more space and prioritized the lifestyle, privacy and safety offered by detached, suburban homes, renting is far more attractive than a mortgage.
As demand for houses increased, institutional investors eagerly nabbed up available inventory. Until recently, an average mom-and-pop investor may have owned one or two rental properties while managing these assets as a small part of their portfolio. Increasing demand has drawn larger investors and REITs to the space, especially as new construction projects hitting the market were able to demand higher rents. American Homes 4 Rent and Invitation Homes are among two of the largest SFRP players in the space, who each dispersed a deluge of investment capital into single-family homes in 2022.
Technology is also unlocking ROI potential
Technological advancements are also making acquiring and managing single-family housing easier than ever. New technologies have allowed owners to simplify digital relationships with their tenants, from collecting rent payments to fulfilling maintenance requests online. These new proptech tools are allowing SFR investors to capitalize on the highest return on investments, boost tenant satisfaction and achieve net operating income nearly on par with multifamily assets, according to a 2021 report by Hoya Capital.
Shifting demand for SFRs
From a tenant perspective, it increasingly makes sense to rent a house. From 2021 to 2022, the median home price rose a staggering 10.1% annually. While a recent report from CoreLogic predicts only a 4.1% annual price increase from October 2022 to 2023, this is increasingly out of many would-be homebuyers' price range. Limited inventory, stalled construction, high pricing and interest rates above 7% have redirected residents' demand toward rental units.
According to a recent survey, adults' preferences for living in the suburbs rose from 4% to 46% of total respondents in 2021, citing safer communities, large yards and room to grow among the primary reasons to explain the shift. The rise of remote work also accelerated population migrations to metros where more single-family supply was available, particularly as a job's location no longer bound workers.
As the appetite for single-family homes increased, investors realized these units could provide a more stable income than apartments. Renters tended to be families seeking stability or excellent school districts, which incentivized them to remain in a single unit for extended periods. Even as home prices settle down and rising interest rates taper, many renters will likely still stay in their rented houses, take better care of their spaces and opt for consistent rent and amenities rather than a mortgage and property taxes.
Above all else, people will always need a place to live. Multifamily and residential spaces have historically been considered secure investment options. In the wake of a housing crisis and the need for more affordable housing, while plenty of demand lies in the multifamily space for new construction, many of these infill projects will likely drive current renter interest towards single-family homes. And as Millenial and Gen Z populations age and generate higher income levels, they're willing to pay a premium for the extra space and privacy.
The future of investing in SFRs
The single-family rental space is relatively young, with solid fundamentals and plenty of growth potential, making it a perfect market for savvy residential investors. High demand levels and increasing rents nationwide are drawing capital to the space, particularly in built-to-rent single-family housing. As we mentioned above, technology is making it all the easier for institutional-grade capital to enter the sector and efficiently manage their portfolios with less effort.
Investing in single-family rentals may also provide a handy hedge against inflation, particularly as the economy fluctuates more erratically. As rents for single-family houses are generally higher than apartments, tenants typically have a higher income and are likely to stay for longer lease terms. And hybrid work scenarios have pushed residents to seek more space and room to grow for their families, choosing to rent rather than needing to.
In the case of a housing downturn, with valuations slipping as demand wanes for purchasing homes, this presents an exciting opportunity for would-be SFRP owners. While much capital stalled earlier this year, those with liquidity and friendly relationships with their lenders can strike while the iron is hot and acquire value-add assets for their single-family portfolios. Institutions should watch for potential discounts in the space, particularly as interest rates decrease their acceleration and eventually adjust to more normal rates.
What the data says
Per Crexi data, sellers added approximately 450 single-family portfolios in the first half 2022, with 309 assets already added in the first two months of 2023. In the same period, the median closing value was $686,000, with about $216 million in property value closed at a median price of $200 per sq. ft.
We've seen a slight decline in valuations in the first half of the first quarter 2023, related to the overall pause in demand due to economic uncertainty and a wait-and-see approach. However, single-family rentals are still among our marketplace's fastest closing assets, with an average of 101 days on the market in the first half of 2022. SFRPs are only likely to increase in value, and investors with cash in hand can capitalize on quick action in key strategic markets.
Pricing contractions are good news for investors. The demand we see on Crexi mirrors this sentiment: we observed an overall 11.6% increase in searches keyed for single-family assets in February, following a 24.5% increase in January month-over-month. Investment capital is primarily originating from investors in New York, Los Angeles, Chicago and Dallas, seeking value-add properties in high-growth Sunbelt metros and pandemic-era boomtowns.
Top markets for SFR investing
These are the top markets seeing the most demand on Crexi for single-family rentals as of the fourth quarter of 2022:
- Houston
- Dallas
- Miami
- Atlanta
- Chicago
These markets are seeing the most growth in demand on Crexi for single-family rentals as of the fourth quarter of 2022:
- Tampa, Fla. up 11.3%
- Detroit, up 27.9%
- Memphis, up 15.7%
- Washington D.C., up 13%
- Ft. Myers, Fla. up 15%
The bottom line
Despite pricing fluctuations and general economic uncertainty, the timing suits single-family rental investors seeking acquisitions with solid fundamentals and plenty of room for high-level growth. Higher-income residents are increasingly interested in renting and choosing premium single-family options instead of owning their homes or staying within the confines of an apartment. Compared to the multifamily sector, the SFRP space is relatively unsaturated, with the potential for promising return on investment, for those ready to deploy capital.
Shanti Ryle is a senior commercial real estate writer for CREXi.