A surprising ongoing trend of this housing recovery is the resilience of owners of single family investment rental properties not to sell them back to owner-occupiers. As I wrote in a March 30, 2016 blog:
Single family dwellings as rentals are one of the surprising surviving trends from the real estate bubble implosion and ongoing recovery. In the past when markets slid, many homes did become rentals – but just for short periods of time until prices recovered and then were often sold to the people that rented them. That is not the case this cycle as an entire industry has grown to service investors of single-family properties.
Often asked is when will these properties come back onto the market, filling the void seen today in inventory available for sale. At the same time, such an increase in supply would mute the above-normal price appreciation taking place in housing today. When single family rentals start to migrate back to owner-occupied properties, they will not do so equally across the country. Once again I invoke the TINSTAANREM clause — There Is No Such Thing As A National Real Estate Market. Each real estate market is different. Ditto single family rental markets.
So what single family markets are likely to remain as rentals and which ones will probably revert back to owner-occupied housing first? My hypothesis is that those markets that have a less desirable rent to price ratio (i.e. lower) will more quickly become owner-occupied homes, while those with a larger rent-to-home value ratio will remain as rentals longer. The greater the yield, the longer the property will remain as a rental.
HomeUnion (an online residential real estate investment firm) completed a study ranking both the best and worst single family rental housing markets looking at capitalization rates. Recall in the income approach of the appraisal process, value = income divided by a cap rate. The smaller the cap rate the more valuable the property (but with a smaller cash flow) and the larger the cap rate the less valuable the property (but with a greater cash flow). Implicit in this approach no consideration for debt service – it assumes that the acquisition was an all-cash transaction.
HomeUnion analyzed the first-year returns for single family rentals, yielding a typical cap rate for each market. So where are the best and worst markets for investors in single family rental housing?
The first of the following two tables lists the top-10 single family rental markets based on cash flow available to the investor – the greater the cap rate the more cash there is for the investor. High yielding markets are likely to remain as rentals given the strong cash flow. The second table is the reverse, detailing the 10 markets with the lowest cap rates – and hence the least cash flow available to investors. Lower yielding markets, I believe, will most quickly revert to homeowner occupied properties. All but three of the lowest-yielding markets are located in California. Essentially, investors in the these markets should look at flipping properties rather than renting them. As usual, I have also added the latest 12-month job growth rate for each Metropolitan Statistical Area (MSA).
It appears that the hotter the local economy (in general) the lower the overall capitalization rate for residential properties. The average 12-month job growth rate of the 10 highest yielding rental markets was 1.59 percent – slightly less than the 1.73 percent U.S. rate. The average job growth rate for the lowest yielding markets is 2.80 percent – 76 percent greater than the high yielding markets.
To read the entire report from the HousingWire click http://www.housingwire.com/articles/37650-single-family-rental-investors-struggle-to-make-money-in-california?eid=311692759&bid=1482252
This says to me that the higher yielding single family rental markets (which have an average or lower job growth rate), will likely remain as rentals.
Just my crystal ball.
Ted