I touched on this before, but this New York Times piece exposing the next bubble, the bulk purchase of foreclosed homes by private equity firms and hedge funds for rental units, is really critical. Basically the same people who were present at the creation of the original bubble are driving the boat in this second incarnation.
As the foreclosure crisis grinds on, knowledgeable, cash-rich investors are doing something that still gives many ordinary Americans pause: they are leaping headlong into the housing market. And not just into tricky mortgage investments, collateralized this or securitized that, but actual houses.
A flurry of private-equity giants and hedge funds have spent billions of dollars to buy thousands of foreclosed single-family homes. They are purchasing them on the cheap through bank auctions, multiple listing services, short sales and bulk purchases from local investors in need of cash, with plans to fix up the properties, rent them out and watch their values soar as the industry rebounds. They have raised as much as $8 billion to invest, according to Jade Rahmani, an analyst at Keefe Bruyette & Woods.
The Blackstone Group, the New York private-equity firm run by Stephen A. Schwarzman, has spent more than $1 billion to buy 6,500 single-family homes so far this year. The Colony Capital Group, headed by the Los Angeles billionaire Thomas J. Barrack Jr., has bought 4,000.
The Times piece focuses on David Miller, a former Goldman Sachs exec and Treasury official (is there any other kind) who now has jumped into this game. Miller’s group, Silver Bay, is about to go public, after buying thousands of homes. This is actually unclear, because Silver Bay isn’t being forthcoming with their metrics. And the Times piece correctly lists all the possible pitfalls from an investment like this. We’re still halfway through the foreclosure crisis, as best, according to many analysts. The economy remains fragile, and price drops will be a major effect of a return to recession. Also, enough people have stepped into this foreclosed home purchasing space that the moment for investment gains may have passed. They may have already run up the price enough that the rental income won’t offset the borrowing costs, especially if they cannot offload the property at a higher price later.
Plus there’s the open question of whether institutional investors can properly manage hundreds if not thousands of properties, in a rental market where landlords usually juggle no more than a handful at a time. They don’t understand the costs of maintenance and repairs. They aren’t factoring in the potential for vacancies or difficult tenants. The rules and rights for renters for states and even localities vary widely. And with all the money in the space, the potential for an unsustainable run-up in prices exists.
As Yves Smith writes, we can be cheered a bit by the skepticism with which the Times carries out this report. I think the scooping up of all this housing stock for rental conversion poses a number of problems, and it’s good to go into it with very clear eyes. Hopefully investors are listening.