With firms like the Blackstone Group swooping into markets, buying up homes by the thousands and seeing their values rise nicely, everyone from real estate bloggers to the New York Times is openly wondering if Wall Street’s next play is to take profits, leaving the nascent housing recovery in smolders.
“In a sign of the potential peril ahead, some of the investment firms have recently taken the first steps to cash out,” is how a Times article published Monday put it, referring to a move by some private equity firms to cash their highly appreciated portfolios into a hot stock market through initial public offerings.
But according to Sean Fergus, senior real estate analyst for John Burns Real Estate Consulting, the media exaggerate Wall Street’s role in real estate.
In an interview with AdvisorOne, the Irvine, Calif.-based analyst offered a back-of-the-envelope calculation for Wall Street’s total inventory of homes at no more than 200,000—compared with real estate transactions in 2012 totaling 4.7 million.
“Some of these private equity firms are issuing IPOs—that’s part of their strategy, but I don’t think it’s some kind of mad rush to sell because they see some sort of problem down the road,” Fergus says. “These firms have solid business models; I don’t see any of them doing that [dumping their inventory]. That would be shooting themselves in the foot.”
The John Burns senior analyst, whose clients range from large real estate developers to private equity and Wall Street hedge funds, says that while some of their models may involve taking their portfolios public, most are waiting patiently for asset prices to rise.
“We’re still expecting 50%-plus aggregate appreciation through 2017 in Las Vegas,” he says citing one example.
And the Las Vegas example is instructive as to Wall Street’s exaggerated role in the real estate market.
“Most of these firms are focused in select markets: Southern California, Phoenix, Las Vegas, Atlanta—and they still represent only a fraction of transactions,” he says, adding that even if every single transaction were concentrated in Phoenix alone, Wall Street’s investment in the sector would not be big enough to cause worries about its role.
“Blackstone is by far the biggest player, with 26,000 homes,” Fergus says, followed by Carrington Holding Co., whose 25,000 homes include many that are owned by “ma and pa investors” for whom Carrington acts as a property manager.
Skeptics of the real estate recovery often point to weak employment and income that should be undermining demand, but Fergus says that argument misses more important factors driving the boom.
“While income growth has been modest and employment growth has been modest, affordability is excellent. It’s still an extremely strong time to buy,” he says, noting that affordability in Atlanta is still approximately 50% below its historical average, and 10 to 20% below historical averages for Las Vegas.
Fueling affordability are today’s low mortgage rates and home prices.
“4% [for a 30-year fixed-rate mortgage] is extremely low compared to any previous time in history. Even if rates went to 5%, that’s still lower than the previous boom cycle,” Fergus says.
“But we don’t see any kind of significant increase [in rates] over the next few years,” he adds.
There's another factor boosting demand.
“There’s an extremely strong propensity to own, even after this whole boom-bust cycle. At the end of the day, the majority of families want to be homeowners,” he says, adding that homebuyers are like car buyers, looking more at the monthly payment than the overall price tag in assessing whether they can afford a home.
For investors taking a more paper-and-pencil look at profitability, Fergus says the first phase, still ongoing, is focused on investments in Southern California, Las Vegas and Phoenix.
Attention is now shifting to the Southeast, where Atlanta and Charlotte are favored markets. The next stop will be the Midwest and Northeast.
But as the market becomes more crowded with ordinary home buyers, it’s getting harder for Wall Street to make a killing on real estate.
“There are two to three times as many people at the courthouse auctions,” he says.
But don’t count Wall Street out just yet.
“They can always come up with new strategies to acquire properties," he says. "It’s such a new asset class. Nobody’s gone through a complete business cycle to know how it all plays out.”
But while the exit strategy is unclear, one thing is perfectly clear right now.
“Any of these private equity firms that got in early already experienced significant appreciation on the homes they’ve purchased,” he says.
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