In many markets, high rents and relatively low home prices are providing solid investment returns for single-family home rentals.
“It’s still a good time to buy rental single-family homes,” says Daren Blomquist, vice president with data firm RealtyTrac.
The highest yields for these types of properties can often be found in secondary and tertiary neighborhoods in secondary and tertiary markets, however, far away from the places where the largest institutional investors have bought their thousands of rental homes. Somewhat older homes in older neighborhoods are benefiting from rent growth and strong demand for rental housing.
The deals are out there
Rents are rising for single-family rental homes across the country. Rental rates on new leases rose an average of 4.5 percent nationally over the past year, up from a rate of 3.4 percent in July 2014. “Strong job growth and improving occupancy rates from relatively low levels are fueling higher rents,” says Rick Palacios Jr., direct of research with John Burns Real Estate Consulting.
The average investment return on rental homes is strong and getting stronger. The average gross rental yield is nearly 9 percent, according to the latest report from RealtyTrac.
“A 9 percent yield is pretty decent, given other choices for investors,” says Blomquist. The firm arrived at that figure using the fair market rents set by the U.S. Department of Housing and Urban Development for three-bedroom rental units and average sales prices for three-bedroom houses. RealtyTrac’s yield does not include operating expenses or possible capital appreciation.
There’s a catch, however—the properties that earn these high returns are rarely located in the markets where the largest investors have been most eager to buy. The list of counties with the highest rental yields starts with Clayton County in the Atlanta metro area and includes Bay County in Michigan and Mahoning County in Ohio, in the Youngstown-Warren-Boardman metro area.
“In secondary or tertiary markets, maybe class-B or class-C homes, in not as good neighborhoods—those are the markets where we are seeing the best returns,” says Blomquist. “The common theme is the Rust Belt and the Southeast is a great place to go.”
The strongest zip codes are in towns like Harper Woods, Mich.; Tobyhanna, Penn. and Forest Park, Ga. These are places where the average home price is well under $50,000 and average rents are significantly higher than $1,000 a month, adding up to annual rental yields of over 30 percent, according to RealtyTrac.
Largest investors pull back
The largest institutional investors are responding to the changed environment by slowing down their purchases.
“We are seeing them definitely pull back,” says Blomquist. “That number has plummeted.”
So far in 2015, only 2 percent of all single-family homes and condominiums were bought by institutional investors, according to RealtyTrac, which defines “institutional investors” as buyers who purchase more than 10 properties a year. That’s a huge falling off from last year, when institutional investors bought 11 percent of all single-family homes and condos bought and sold. In 2013, institutional investors bought a much larger 13 percent.
“In many of these markets, they have priced themselves out,” says Blomquist. Larger investors like Blackstone and Cerberus Capital Management bought thousands of houses in places where home prices had fallen sharply in the housing crash.
“These investors have focused on class-A homes that are less than 20 years old in really good neighborhoods,” says Blomquist. “That type of property is harder to come by.”
A few of the largest institutional investors are still buying single-family homes, however. In June, Cerberus announced its plan to buy 4,200 rental houses for $402 million from BLT Homes, according to Bloomberg Business. That works out to a little less than $100,000 per house, spread through seven states: Florida, Illinois, Indiana, Mississippi, Missouri, Kansas and Tennessee.
The largest institutions are also finding ways to invest indirectly in these less-expensive rental homes, by lending money to spin-off companies that buy and manage them. Blackstone Group, for example, has created B2R Finance, while Cerberus owns a majority stake in FirstKey Lending.