A recent WSJ piece entitled, If You Sell Your House, The Buyer Might Be A Pension Fund, caused some commotion. The article highlighted how competition is heating up for single family homes due to demand from institutional real estate investors.
When I read the article, I was surprised to see Fundrise, a long-time FS supporter, mentioned in the second paragraph. Usually, you hear institutional real estate investors like BlackRock in the news. The article is behind a paywall, but here’s the snippet the WSJ allows non-subscribers to read.
A bidding war broke out this winter at a new subdivision north of Houston. But the prize this time was the entire subdivision, not just a single suburban house, illustrating the rise of big investors as a potent new force in the U.S. housing market.
D.R. Horton Inc. built 124 houses in Conroe, Texas, rented them out and then put the whole community, Amber Pines at Fosters Ridge, on the block. A Who’s Who of investors and home-rental firms flocked to the December sale. The winning $32 million bid came from an online property-investing platform, Fundrise LLC, which manages more than $1 billion on behalf of about 150,000 individuals.
The country’s most prolific home builder booked roughly twice what it typically makes selling houses to the middle class—an encouraging debut in the business of selling entire neighborhoods to investors.
“We certainly wouldn’t expect every single-family community we sell to sell at a 50% gross margin,” the builder’s finance chief, Bill Wheat, said at a recent investor conference.
Thoughts About The Purchase From Fundrise
If you are an investor on the Fundrise platform, you ideally want Fundrise to pay as little as possible for a property in order for you to earn the biggest return possible. Therefore, although $32 million is only a small portion of the ~$1 billion Fundrise manages, paying more for what D.R. Horton normally gets is worth inquiring about.
As a result, I asked Fundrise’s CEO, Ben Miller, to share their side of the story as competition from institutional real estate investors heats up. I’ll then share my thoughts on why you may want to invest with institutional real estate investors. Here’s Ben.
The State Of Single Family Rentals (SFRs)
While the Wall Street Journal piece does a good job of highlighting several key trends, its depiction of the D.R. Horton deal in particular is limited.
There has been rapidly growing demand for SFRs across the country, particularly in the South and Southeast. Demand is driven primarily by demographic changes, i.e. millennials starting families. There are also affordability constraints as there are more people moving away from small apartments in expensive cities to larger homes with yards.
This trend falls squarely into our primary investment strategy of identifying long-term macroeconomic growth drivers. COVID dramatically such a trend.
Simultaneously, there’s chronic under-supply of single family homes in America. It is driven in part by burdensome regulation. And to some extent, the lasting impact of the housing collapse in 2008 has also cut supply short. The issue of under-supply was exacerbated by COVID. Most builders pulled back on building new homes in the beginning of 2020.
All of these factors have made SFRs exceptionally attractive investment assets. Which has predictably led to a growing appetite for SFRs from large traditional investment managers.
On the D.R. Horton Deal In Particular
The Amber Pines community is a purpose-built rental community created by D.R. Horton. The community was already fully leased and occupied when it was brought to market in a single sale of 124-homes. These were not homes available for sale to individual home buyers.
Let me give a brief peek behind the curtain of how the deal was done. The sale was managed through a top national brokerage firm. The auction process was highly competitive with several top real estate investment firms bidding alongside Fundrise.
In the end, we bid approximately 1-2% more than the other leading bidders. In other words, we didn’t overpay based on institutional real estate investor demand. Based on verbal feedback from the seller, we believe the most important differentiating factor was our ability to close quickly on the transaction.
Our conviction around the SFR asset class and our ability to execute an all-cash deal directly from the balance sheet of our eREITs, allowed us to commit to closing in significantly less time than the other potential buyers.
So, how do we feel about the deal in hindsight?
Not only was the community fully leased at closing, but we’ve already experienced year-over-year rent growth on lease renewals of approximately 2-3x industry norms for residential assets.
While we expected strong rent growth when we made the investment, these numbers have exceeded our underwritten expectations. This makes us feel even more bullish on the quality of the acquisition.
We feel very good about the price we were able to negotiate on behalf of our investors. Here is a video of the Amber Pines acquisition if you’re curious. Amber Pines is in Conroe, Texas about 40 miles north of Houston.
Note from Sam: Coming from San Francisco, it’s amazing to me the average price per a home in the Amber Pines community is only $258,064 and already all rented out. I feel like “expensive capital” from the coasts is going to continue buying heartland real estate to earn higher rental yields. Further, the median priced home in America is now ~$370,000, putting these homes Fundrise bought at a 30% discount.
How We Think About Growth Investments More Broadly
As we often share with our investors (including earlier this month), we tend to focus on the long-term drivers of macroeconomic growth. We seek to understand how that growth is likely to manifest in various kinds of real estate assets.
In this case, we see the increasing demand and subsequent growth in rents for well-located, newly-built SFR homes as experiencing outsized growth relative to most other real estate assets. We also believe there’s significant downside risk mitigation from the ongoing supply/demand imbalance of relatively affordably priced newly built homes in these high population growth markets.
We were fortunate to be one of the few groups to enter the SFR market almost immediately following the initial onset of the pandemic. This allowed us to gain strong traction with the country’s top home builders. It also allowed us to establish ourselves as one of the more dominant buyers in the SFR space. Even as many of the traditional big name institutional investors continue to struggle to gain a foothold.
Over time, as is often the case, we expect this early mover advantage will allow us to gain more scale, faster. In turn, this should lead to unique opportunities to capitalize on our economies of scale.
What It Means For Fundrise Investors
We believe the D.R. Horton deal demonstrates how Fundrise investors are uniquely poised to benefit directly from one of the most attractive real estate asset classes today. Fundrise collectively competes against (and beats) the largest institutional investors in the world—all at low costs and at the touch of a button.
None of this would’ve been possible 10 years ago. That’s why Fundrise exists. We enable regular investors to participate in the investment of real estate investment projects once reserved for institutional real estate investors or high net worth individuals. Come join a community of over 150,000 investors and see for yourself what we have to offer.
Sam’s Thoughts On The Real Estate Demand Dynamic
It is clear, demand for single family homes is robust across the country. I believe there will be a multi-year real estate bull market due to positive demographic trends, an accommodative Fed, and a strong economic recovery. As a result, I’ve allocated roughly 40% of my net worth towards real estate.
Although it may be frustrating for individuals to compete against institutional real estate investors, be strategic about buying your next home.
You just have to find single family homes for sale that are not part of a planned community. That shouldn’t be a problem because many single family homes are owned by individuals. In San Francisco, I’ve never come across a seller or competing buyer who was an institutional real estate investor.
From the institutional real estate investor’s point of view, it needs to search for communities and larger projects to buy rather than individual single family homes. It’s not resource efficient to buy a single family home one-by-one if you’ve got a large amount of capital.
Can you imagine Fundrise trying to negotiate 124 separate single family home transactions to allocate $32 million in capital? What a PITA! The transaction documents alone would be overwhelming.
A Hybrid Way To Buy Real Estate
I think a middle ground solution is to own your primary residence and then allocate some capital with an institutional real estate investor like Fundrise for exposure. You can obviously also buy publicly traded REITs, real estate-related stocks, and rental properties as well. For example, I also own O, OHI, Home Depot, and several rentals.
Just know that during the last downturn in March 2020, publicly-traded REITs like VNQ fell even more than stocks. Therefore, if you’re looking to buy publicly-traded REITs to decrease your portfolio’s volatility, it may not work. With thee rental properties in San Francisco, I’m at my limit for how much I want to comfortably own. Hence, my desire to diversify into the heartland.
Remember, you’re not really long real estate if you only own one home.
Many people have discovered this reality during the pandemic and have decided not to sell as a result. They know that if they sell, they would then have to then compete to buy a new home or pay higher rents. As a result, housing inventory is down double digits year over year.
Invest In Your Real Estate Edge Accordingly
Personally, I feel I have an edge when it comes to investing in San Francisco real estate. However, I have minimal edge when it comes to investing in heartland real estate. I just believe the overall trend will be positive. Therefore, I’m glad to allocate capital to an institutional real estate investor who does have the expertise.
I plan to ride the real estate wave for as long as possible with my hybrid real estate ownership structure. In my opinion, the best holding period for real estate is forever. But sometimes life can be very unpredictable.
If you are frustrated with domestic institutional real estate investors competing for real estate, you can always join them. Access is one of the main reasons real estate crowdfunding platforms exist. The platforms also do the due diligence and heavy lifting for you so you don’t have to.
After buying another single family home in 2020, my remaining real estate crowdfunding investments account for about 10% of my overall real estate exposure. It was about 16% before my latest SFH purchase. Surgically allocating capital with an institutional real estate investor is different from going all-in on a single family home with a mortgage.
Once I get a particular rental property remodel done, I will likely sell it after my tenants move. Then I’ll roll the proceeds into a diversified eREIT or publicly-traded REIT to earn 100% passive income.
I just paid my property tax bill and it is getting to be uncomfortably large.
Beware Of The Foreign Buyer
Finally, let’s talk about the foreign buyer looking to buy up American property. Eventually, global economies will open up again. If you think competition from domestic institutional real estate investors is fierce, just wait until we start seeing international money re-enter our system.
Take a look at the dollar-volume of existing home purchases by foreign buyers. Notice how the dollar volume peaked in 2017 at $153 billion. It has trended down until March 2020, with likely continued low volume up to now.
The main reason is due to stricter capital controls, especially from China, the #1 foreign buyer over the last several years. There were also many additional visa restrictions during the Trump administration.
However, as a forward-looking investor, there is a high likelihood foreign capital will return. Like us, foreigners also have pent-up savings. Foreign equities are also at or near all-time highs. Further, U.S. real estate is inexpensive compared to many other international real estate markets.
Once fully vaccinated, take a visit to London, Hong Kong, Singapore, Paris, Dubai, or Mumbai. Once there, check out some real estate listings. You will realize how affordable U.S. real estate is, especially when compared to our income opportunities.
Don’t let foreigners price you out of your own neighborhood like what’s been happening in Auckland, Vancouver, and a bunch of other cities. As an American, I want to own as much U.S. real estate as comfortably possible before foreigners bid up our prices. That day is coming once again.
Readers, to hedge against institutional real estate investor competition, why not just invest with them? For example, I knew I could’t compete with Kleiner Perkins in VC, so I invested in their fund. Do you believe the amount of capital seeking U.S. real estate will increase due to the return of foreign buyers?