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Carrington Stops Buying U.S. Rentals as Blackstone Adding
By John Gittelsohn -
May 29, 2013 1:36 PM MT
Hedge fund manager Bruce Rose was among the first investors to coax
institutional money into the mom and pop business of single-family home
rentals, raising $450 million last year from Oaktree Capital Group LLC. (OAK)
Now, with house prices
climbing at the fastest pace in seven years and investors swamping the
rental market, Rose says it no longer makes sense to be a buyer.
“We just don’t see the returns there that are adequate to incentivize
us to continue to invest,” Rose, 55, chief executive officer of
Carrington Holding Co. LLC, said in an interview at his Aliso Viejo, California
office. “There’s a lot of -- bluntly -- stupid money that jumped into
the trade without any infrastructure, without any real capabilities and a
kind of build-it-as-you-go mentality that we think is somewhat
irresponsible.”
Carrington, which started in 2003 as a mortgage
investment fund and has managed almost 25,000 rental homes for itself
and others, has been joined by hundreds of institutional and
international investors buying single-family homes after prices
plunged following the housing crash. The firms are building a new
institutional real estate asset class from the 14 million leased
single-family residences that are worth an estimated $2.8 trillion,
according to Goldman Sachs Group Inc.
Even as demand for rentals rises amid a falling homeownership rate, yields are declining and companies formed to buy the homes that have gone public haven’t yet been profitable.
Rising Prices
It’s also getting harder to buy properties
cheaply, with purchase prices rising 11 percent in April from a year
earlier to a median $192,800, according to the National Association of
Realtors. Asking prices for rents rose just 2.4 percent in the 12-month
period, according to Trulia Inc. (TRLA)
Funds are buying property now, including homes sold by Carrington,
for rents that yield 6 percent to 8 percent a year, before costs such as
insurance, taxes and vacancies, according to Rose. Carrington’s model
called for mid-single digit net returns on annual rents on an unlevered
basis, according to Rose. While returns would vary by market, they would
generally be in the mid- to high teens over the duration of the holding
period, with the profit from home price appreciation.
“We
selected our capital for this trade, sourced from a level that’s just
too expensive for what the market has morphed into,” Rose said. Oaktree,
the Los Angeles-based investment firm founded by Howard Marks, declined to comment, said Alyssa Linn, a spokeswoman at Sard Verbinnen & Co.
Nonperforming Loans
Instead of acquiring rental homes,
Carrington is buying nonperforming loans, including about $4 billion in
2012. While that’s a potential source of rental properties if the owners
can’t pay the mortgages, Rose’s preferred outcome is to get the loans
performing again by offering a modification that keeps the current owner
in the house, he said.
Carrington also is buying mortgage
servicing rights and expanding a loan origination business for borrowers
who can’t qualify for prime loans because of low credit scores. Rose
expects to issue securities backed by these loans as soon as the end of
this year, he said.
“It’s all about control,” Rose said. “We
learned the better loans would be created for us to invest in if they
originated off of our own platform and then boarded onto our own
servicer, where we could control the performance longer term rather than
leaving it in someone else’s hands.”
DEA Pilot
That desire for control is reflected in Rose’s
life outside the office. He got a pilot’s license at age 17 and worked
as a commercial aviator, including a stint flying for the U.S. Drug
Enforcement Agency, before moving to Wall Street.
He still enjoys taking the helm of Carrington’s two Dassault Falcon
jets when he visits the company’s properties around the country.
Another investor that has stopped putting money into rental homes is Och-Ziff Capital Management Group LLC (OZM),
a $31 billion hedge fund managed by Daniel Och, which cut its stake
last year in 643 Capital Management LLC, a single-family rental operator
with almost 2,000 homes in California, Florida, Nevada and Texas.
Gregor Watson, managing partner at San Francisco-based 643 Capital,
declined to comment on the Och-Ziff relationship. In general, the
single-family rental business has matured to a lower-risk, lower-return
investment as more funds get a track record, he said.
“It’s gone
from an opportunistic business to a value-add one in terms of returns,”
Watson said in a telephone interview. “We and other groups have proved
you can manage these at scale.”
Blackstone Buying
Blackstone Group LP (BX),
the largest investor in single-family rentals, has spent $4.5 billion
to amass more than 26,000 homes and continues to buy, according to Eric
Elder, a spokesman for Invitation Homes, the rental housing division of
the world’s largest private equity firm.
“We’re continuing to purchase homes where they fit into our business plan,” Elder said.
Blackstone’s net yields on its occupied houses are about 6 percent to 6.5 percent, Jonathan Gray,
the firm’s global head of real estate, said during a May 3 conference
call with investors. That’s before using leverage from a $2.1 billion
line of credit the private-equity giant arranged in March from a lending
syndicate headed by Deutsche Bank AG. (DBK)
While
about 85 percent of Blackstone’s renovated homes were leased, Gray
said, “we’ve got an awful lot of homes to continue renovating.”
Losses Reported
Companies
that release financial results for single-family rental investments
have reported losses as they acquired homes faster than they can
renovate and find tenants.
Colony American Homes Inc (0773189D)., a division of Thomas Barrack Jr.’s Colony Capital LLC,
has found tenants for only 51 percent of the 9,931 homes it bought for
$1.4 billion, according to a filing yesterday with the U.S. Securities
and Exchange Commission.
American Residential Properties Inc. (ARPI),
a Scottsdale, Arizona-based real estate investment trust, and Silver
Bay Realty Trust Inc., a New York-based single-family REIT, both
reported losses in the quarter ending March 31. Owen Blicksilver, a spokesman for Colony Capital, declined to comment. Silver Bay CEO David Miller
was unavailable to comment, according to Tricia Ross, a spokeswoman at
Financial Profiles Inc. American Residential CEO Steve Schmitz and
President Laurie Hawkes didn’t reply to e-mails seeking comment.
Silver Bay declined 2.6 percent today in New York to $18.24 and has lost 4.4 percent this month. The company sold shares to the public in December for $18.50.
Defaults Soaring
Rose worked in the mortgage department at Salomon Brothers
from 1991 until 2003, after it had been acquired by Citigroup Inc. He
started Carrington in Greenwich, Connecticut, as a securitizer of
mortgages originated by subprime lenders such as New Century Financial
Corp., Fremont General Corp. and H&R Block Inc.’s Option One
Mortgage Corp.
In 2007, as defaults began to soar and the lenders
were collapsing, Rose sought to gain more control over the trusts that
admistered the loans. He paid $188 million for the servicing business of
then-bankrupt New Century’s mortgages.
When Carrington
foreclosed on the homes in its portfolio, Rose calculated it often made
more sense to keep the houses as cash-flowing rentals rather than sell
them into a weak market. By 2009, Carrington had expanded from being an
asset manager to a loan servicer and property manager, overseeing its
own holdings plus more than 3,000 rental homes that Fannie Mae had repossessed.
Housing Exposure
With home prices about one-third below peak
at the time, Rose saw the opportunity to buy and manage thousands of
properties as a way to make money on rents while betting on a long-term
real estate recovery.
“This was the purest way to get pure housing exposure,” he said. “You can’t do it through banks or builders or mortgage companies or anyone else.”
Rose initially found it hard to find backers.
“There
wasn’t a domestic investor at the time that had the foresight to see
what the value of the product was,” he said. “Universally we got back:
Oooh, housing. Really scary. It’ll never go back up.”
By the time
Oaktree invested with Carrington, the housing market had begun to turn
around in markets like Phoenix and California, where funds had started
to buy thousands of residences for rentals.
While Rose isn’t
buying now, Carrington’s 3,000 employees’ experience in renovation and
rental management are a resource available to other investors entering
the market, Chief Operating Officer David Gordon said during an
interview.
‘Gold Rush’
“All the people who made money
during the gold rush in California, they were selling the buckets and
shovels,” Gordon said. “I think there is gold in them there hills, but
you’re going to have to dig deep. And hopefully you’re going to need
more than one shovel.”
Carrington may start buying rental homes
again when other large investors decide to sell after learning they
can’t make returns that justify the prices they paid, Rose said.
“We’ll
sit back in the weeds for a while and wait for a couple of blowups,” he
said. “There’ll be a point in time when we’ll be happy to get back into
the market at levels that make more sense.”
