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November 7, 2013 9:43 am
Hank Rosely says it all happened very quickly.
The retired lawyer sold his Palm Beach house to Invitation Homes, the rental unit of private equity giant Blackstone, in August, in a transaction that closed within days.
Blackstone is one of a number of large institutional investors – from private equity firms to hedge funds – that have spent the five years since the worst of the financial crisis snapping up tens of thousands of residential properties on the cheap and converting them into rental homes.
Now they are beginning to package the rental proceeds from those homes into the kind of “sliced and diced” securitisations that proliferated before the bursting of the housing bubble in late 2007. This week Blackstone sold the first of these bonds – a $479m deal that bundled the cash flows from more than 3,000 single-family rental properties scattered across Arizona, California and Florida.
For some, the bonds represent the birth of an asset class, the future of the US housing market and a recovery in credit sectors that all but died during the financial crisis. For others, they look like a potential repeat of the securitisation machine that contributed to the last housing boom – complete with triple A credit ratings, high demand from yield-hungry investors and rapid expansion.
“Invitation Homes is buying so fast,” says Mr Rosely. “They truly are purchasing and handling enormous amounts of property, and the potential for explosion seems to be huge.”
The new bonds are known as “single-family rental” or “Reo-to-rental” securitisations. “Reo” is an industry term for foreclosed houses that have been repossessed by banks.
Firms including Blackstone, Colony Capital and a long list of real estate investment trusts have spent about $20bn acquiring 150,000 distressed properties, according to estimates from KbW.
Those purchases have helped push US house prices to their highest level since mid-2008, just before the worst of the crisis. These big institutional buyers are looking to finance and expand their purchases by securitising the rental proceeds.
“It’s basically a way to provide leverage for the Reo-to-rental business,” says Laurie Goodman, a prominent mortgage analyst and senior fellow at the Urban Institute. “To the extent that prices have gone up and you’re no longer able to generate a sufficient cash return to attract investors, it’s necessary to employ leverage.”
Analysts at Deutsche Bank, which helped structure the Blackstone deal, say the bonds also tap a growing trend in the US housing market – a shift away from home ownership. The rate of US home ownership has dropped from 70 per cent at the peak of the housing boom to 65 per cent, its lowest in 18 years.
“These securities could mark a revolution,” says Robert Shiller, the Nobel Prize-winning economist. “The securitisation of ownership of foreclosed homes . . . would really be a new thing.”
For months Blackstone’s bankers struggled to secure a credit rating that would make the deal palatable to investors. Rating agencies were initially wary of evaluating the deal, given their oft-highlighted pre-crisis failure to spot risks lurking in other mortgage-backed securities.
However, those concerns seemed to have eased in recent months as Blackstone tweaked the structure of its deal. Three rating agencies – Moody’s, Morningstar and Kroll – agreed to give the most senior slice of the deal a coveted “triple A rating”.
The top rating surprised many market participants, who had speculated that the security would be lucky to get a single A, if any rating at all.
Apartments are efficiently managed . . . But if you are buying previously owned homes, there may be millions of different problems that can be very costly
- Robert Shiller, Nobel Prize-winning economist
Moody’s has said that one of the main factors in awarding the deal its highest possible rating is Blackstone’s ability to sell the properties if tenants stop paying rent.
Other rating agencies disagree with that reasoning.
Fitch warned that it might be difficult for issuers of the securitisations to liquidate their portfolios in a downturn. Others have voiced concern over the ability of financial firms to act as landlords for thousands of single-family rental properties.
“I’m excited about it, but I don’t know if it will work,” says Mr Shiller. “Apartments are efficiently managed. They’re all right there together and a super can watch everything that is going on. But if you are buying previously owned homes, there may be millions of different problems that can be very costly.”
Despite lingering questions over the risks of the bonds, demand at this week’s sale was strong.
Bankers sold the $279m triple A slice of the deal for 115 basis points over Libor, indicating that investors were eager to buy and that the bonds could provide a relatively efficient source of financing for Blackstone. “It means investors are clearly yield-starved,” says Ms Goodman.
The success of the sale means many more properties like Mr Rosely’s former Palm Beach home could soon be bundled up and sold to eager investors.
“Securitised loans backed by home rentals totalling in the billions is not out of the question by this time next year,” say the analysts at Deutsche. “Indeed, barring another recession, we find it hard to imagine how a relative flood of deals won’t happen in the next year or two.”
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