Fitch Ratings revealed in a report that two identifiers will play an important role in determining whether the single-family rental market securitization product will be successful: the local employment base and desirability of the neighborhood.
According to the New York-based ratings agency’s report titled “REO-to-Rental Securitizations: Considering the Risks”, converting single-family real estate owned inventory into rental properties and securitizing the cash-flow streams has drawn strong interest among investors, lenders and government agencies, particularly because the private label residential mortgage-backed securities market stalled and the inventory of foreclosed homes and distressed borrowers is elevated.
Fitch estimates that there are currently approximately 2.4 million loans 60 or more days delinquent or in REO nationwide. In the first quarter of 2012, the homeownership rate was 65.4%, a level last seen 15 years ago, according to the U.S. Census Bureau.
But Fitch said that given current house price conditions, tight underwriting guidelines and elevated unemployment levels, inventory absorption by potential homebuyers is likely to be insufficient.
“The SFR product may provide an alternative investment opportunity to non-agency buyers while offering families displaced by foreclosure a comparable alternative,” said Suzanne Mistretta, senior director at Fitch Ratings.
Fitch said SFR properties could potentially help certain real estate markets from further price erosion due to excess supply and the negative effects of vacant homes.
“While many of the more notable states, such as California, Florida, Arizona and Nevada, have a significant volume of distressed and REO inventory, investment decisions are more driven by local employment conditions and neighborhood desirability,” Fitch said in the report. “The ability of the property management firm to adequately gauge these conditions will be an important consideration in Fitch’s assessment of cash flow sustainability.”
Two markets that Fitch believes are good candidates for SFRs are Phoenix and Atlanta. Both cities have steep home price declines and high rates of foreclosure that could provide an investor with substantial returns and they also offer robust employment base that provides stability to rental demand, Fitch said.
Fitch views the SFR product as having characteristics of both commercial and residential mortgage collateral, as the rental cash flows and the value of the underlying property may both be needed to service and repay the transaction’s debt. Therefore, the ability of a property management firm to determine which markets are best suitable for rental properties rather than homeownership is important for the long-term performance of this asset class.
Additionally, Fitch will rely on data for determining rental prices, vacancy rates, supply and demand and other pricing fundamentals to gauge grade ratings on SFR transactions.
“Expertise and continuity of the manager, durability of cash flow, stability of value and the transaction’s liquidity and structure will go a long way toward shaping our opinion,” said Dan Chambers, managing director at Fitch Ratings.
