Unprecedented need for private capital drives demand for SFR
Amherst's Chris Avallone says SFR fundamentals strong but ABS market is mispriced in investors' favor
With mortgage rates hitting 8% and housing supply severely limited, the single family rental (SFR) segment is one of the only bright spots in the commercial real estate.
GlobalCapital talked to Chris Avallone from Amherst, one of the biggest issuers in the SFR securitization market. The firm has tapped the securitization market four times this year, raising around $1.3bn in total through two private and two public deals.
Avallone believes that the headwinds faced by most other CRE sectors, including higher mortgage rates and limited supply, is driving robust demand for SFR, and the sector is looking for more private credit or financing.
GlobalCapital: How do you feel the year has gone so far for The Amherst Group and the RMBS market more generally?
Chris Avallone, head of merchant banking, Amherst: Amherst has a 20 plus year history investing in the securitized mortgage market, and this year we’ve continued to leverage those decades of experience and our data-driven investment process to identify overlooked opportunities across the real estate spectrum.
Today’s impaired US banking system, which is not in a position to grow its balance sheets, has a lack of effective equity capital [and this] will have to be rebuilt over time. This creates more pressure on the sourcing for consumer financing, including residential mortgages.
We believe this void created by lack of bank participation, both for high quality securities and loans, will present attractive opportunities for private capital.
Amherst is a big participant in the SFR market. What opportunities does the current landscape bring in the sector?
The existing barriers to home ownership are deepening dramatically. Today, we estimate that it’s 36% cheaper to rent versus own the same home in the US, largely due to the rapid increase in the average monthly mortgage payment, doubling since 2022.
Meanwhile, our research indicates that the US is underbuilt by approximately 4.6m single family units, and homebuilders are taking down starts, with 30% fewer homes in the last year.
For-sale housing supply remains constrained by the historic “lock-in” effect (whereby existing homeowners are reluctant to sell due to higher mortgage rates) and by rising construction costs from sharp increases in energy and labor costs.
With supply completely exacerbated, the mortgage lock-in effect, and ongoing unaffordability challenges, the need for private capital participation in SFR is more critical than ever before and is boosting demand for SFR across investors and consumers.
Increased consumer demand is supported by affordable rents, growing wages and a further decrease in purchase affordability.
Challenges to most other CRE sectors have driven strong and growing investor demand for SFR, as single family detached housing is absorbing the lost occupancy from retail, entertainment, dining and now office. This is creating a regime shift in value drivers, as space demand is down in CRE and up in residential, with consumers now shopping from home, streaming from home, working from home, and much more.
Further, in the current inflationary environment, many investors are investing in US single family housing to generate attractive real returns: shelter inflation, measured by rent growth, has historically outpaced the consumer price index by around 1.5 times.
It’s worth noting that — unlike other commercial real estate asset classes — ownership of single family rental housing is still highly fragmented and in the early days of its modernization. This contrasts with multifamily, which has been professionalized for decades.
Investors are still significantly underweight SFR and in the very early stages of rotating into the sector, which is expected to be a positive tailwind for performance and valuation through time.
How do you expect rent growth to evolve in the coming year? How does that affect your SFR strategy?
Rent growth in 2023 is expected to be mid-single digits percent, market depending. For areas where we see notable increases in productivity and job growth, like the southeast, higher rent growth is projected.
Looking ahead, we expect that continued wage growth and high barriers to home ownership, which are both contributing to strengthening credit profiles of single family rental consumers, will support portfolio performance.
What about the commercial real estate sector? What is Amherst’s strategy and how is it doing in this particularly challenging year?
This year’s regional banking crisis reinforced the need for private capital participation, with significant implications for MBS/CRE lending.
The “extend and pretend” to limit distressed supply being forced onto the private market will come at a high cost, particularly limiting bank demand for securities and hampering new credit creation for the foreseeable future.
What opportunities do you see in the current CRE market?
Bank balance sheets are continuing to shrink their exposure to real estate loans — through dispositions and minimal new originations. Coupled with the steep rise in interest rates, borrower refinancing options are limited, creating a favorable competitive landscape for new credit opportunities, as many lenders are on the sidelines. With over $1tr of CRE loans maturing over the next 12 months, this opportunity set is expected to grow quickly.
Generally, we are also seeing a shift to alternative re-use for CRE. For example, old office space [is] being repurposed as distribution centers to better align with working from home trends brought on by pandemic.
We believe we can use our capital markets expertise and our vertically integrated operating ecosystem to be a unique solutions provider in the commercial real estate market.
What is your outlook for the securitization market?
Debt investors are earning very attractive risk-adjusted returns by investing in single family rental debt. In many cases, [it's] too attractive given fundamentals. Portfolio performance remains very strong given the positive demand drivers and operational efficiency of national platforms like Amherst Residential. Investors, particularly in the senior part of the capital structure, remain very well protected; however, general capital markets volatility has resulted in incremental mispricing of SFR risk in the investors’ favor.
Against this backdrop, we are starting to see private capital compete with the traditional ABS market — often at better terms, and offering certainty of execution. This is reminiscent of 2017-2019 market conditions where private financing alternatives more accurately reflected the fundamental risk and return of the asset class.
At Amherst, we certainly don’t operate under the need to access the ABS markets and won’t force issuance. We’ll opportunistically access the SFR ABS market, whether that’s in the form of new issues or refinance opportunities.
More broadly, I would expect other operators to be in a similar position, where they’re seeking creative, often private alternatives. Acquisition volumes are muted, but aggregators do have seasoned assets on their balance sheet which will require financing.
Any other macro trends to watch out for in the rest of the year and in the coming year?
We often say, “tech ate the real estate”. Retail has been impacted by online shopping. Office has been impacted from working from home. Hospitality has been impacted by short term rentals.
The common denominator for all of these is “the home”: residential is one of the only sectors that is thriving amid the broad disruption of the real estate capital markets due to demographic shifts and monetary policy. We expect these significant economic, demographic, and policy-related trends will continue to drive demand for SFR.