Another Way to Play the Rent vs. Buy Market

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The housing market is improving, albeit slowly, and in fits and starts. Mortgage interest rates are the lowest they've been in decades, and despite recent reports that in some areas it is often cheaper to buy your own home, many people are opting to rent.

A Gallup poll on homeownership released last month shows that homeownership is at decade-low levels -- 62% today compared with the next-lowest point, 67%, in 2001. Many reasons are given for this lack of participation in the "American dream," among them the foreclosure crisis that has created a difficult environment in which to obtain mortgages, high unemployment during the recession, and declining home values.

These days, many either can't afford a home, or simply do not believe that owning a home is a good investment, since declining home values seem to indicate that the old saw that says that a house always appreciates in value is no longer true. Just about a year ago, a Fannie Mae survey showed that the lowest percentage ever recorded -- 64% -- thought that owning a house is a safe investment. This belief seems to be rubbing off on the millennial generation, who show the least interest of any previous generation in homeownership.

Of course, declining home prices and rising rents are great news for real estate investors. But being a landlord isn't easy, with all those pesky sweat-equity issues and the constant need to find, and then keep, tenants. Don't despair, though -- there's another way to play this game and come out a winner.

Multifamily REITs can be the best of both worlds
Real estate investment trusts that specialize in multifamily apartment developments can be a sweet deal for the laid-back real estate investor. Not only do they take care of all the drudgery associated with renting homes, but are also required by law to return 90% of profits to investors. Here are three that look especially juicy.

Post Properties (NYSE: PPS  ) just turned in its first-quarter report, handily beating estimates on FFO. This company owns and operates upscale apartment communities in desirable areas such as Atlanta, Dallas, and Washington, D.C. In a little over two years, this REIT has added nearly 1,800 new units to its portfolio, with interests in 58 apartment communities. Currently, it is building a new complex in Houston and expects to start renting sometime next summer.

Colonial Properties (NYSE: CLP  ) continues to show escalating revenue, this time of nearly 13% from the year prior. The company is expanding, too, having recently bought a 350-unit community in Raleigh, N.C., and developing another, comparably sized community in Charlotte.

Last but not least is UDR (NYSE: UDR  ) . This multifamily REIT is currently raising capital through strategic sales to fund its ambitious development projects for this year. Among its new initiatives is a foray into the Manhattan real estate market, where rents are going through the roof because of tight rental supply, and the scuttlebutt is that landlords there can count on rents to increase nearly 7% this year.

Fool's take
While there's no doubt that multifamily REITs are a growth industry, they can also be a pricey investment. They command a premium investment dollar for what they return, which will necessarily fluctuate with the housing market. All three trade at substantial multiples of EBITDA, and only Post is profitable post-interest and taxes. Colonial, however, has the most reasonable price-to-book multiple, at 1.6 times.

So do your due diligence, and keep an eye on the housing market. You just might come around to taking a second look. Continue working on your retirement plan by checking out The Motley Fool's free report on other smart investments here.

Fool contributor Amanda Alix owns no shares in the companies mentioned above. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Read/Post Comments (3) | Recommend This Article (3)

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  • Report this Comment On May 16, 2012, at 5:33 PM, martianrealist wrote:

    I never understood why someone buying a house as a primary residence would think of it as an investment first. I bought my house 6 years ago in NY and the value probably has dropped 20%, but I am not overly concerned since I bought within my means and I did not buy it to sell for a profit. I purchased the house to live in it and enjoy the freedom of living in my own property compared to renting (not to keep monitoring Zillow everday and lose my sleep over how much the price dropped by). I am of course concerned about my 401K, Employee Stock option, cash invested in stocks etc, but not my house (that for me is a place to live first, investment a distant second).

  • Report this Comment On May 21, 2012, at 8:12 AM, FutureMonkey wrote:

    Martianrealist -- I believe there has been a substantial misunderstanding of the term "investment" when applied to primary home ownership.

    A primary home is a good "investment" if you stay in it for a long period of time. Since the 30-year fixed was the standard, an amortized fixed payment meant your housing costs (ex maintenance, property taxes) didn't rise with inflation over a multiple decade period the way rent does AND you expanded equity. Especially true if you bought the house in your wealth building years and lived in it in retirement (or traded your equity for your smaller retirement home, but still lived "rent free" in retirement). The "investment" was an offset of future cost of housing while you were hitting your midcareer stride in earnings.

    That concept got distorted in the frenzied boom years by people choosing exotic mortgages, cashing out equity, trading up, or otherwise continuing to increase their monthly housing payment AND debt burden during their wealth building years AND not saving for retirement. As property values rose, people chose to spend the "return" rather than saving the difference. Any offset of future cost of housing evaporated.

    If you rent cheaper than own and put the difference into your retirement funds OR live in the house for a decade or more -- and trade sideways or down in size/cost, then you do okay. If you rent and don't save the difference or own and move or re-fi as often as you did in college...then hope and pray that your other investments do well to offset future higher cost of housing. Either that or just keep working longer.

  • Report this Comment On June 01, 2012, at 10:06 PM, MHedgeFundTrader wrote:

    The March Case Shiller Home Price Index is out, showing that the fall in home prices continues unabated, paring -2.6% on a YOY basis. Detroit delivered the biggest drop, down a shocking -4.4%, followed by Chicago (-2.5%), and Atlanta (-0.9%). But 14 out of 20 markets managed increases in prices. The national index is still declining, but at a slower rate. Given that this indicator lags real time by about three months, is there something going on in housing that we should be anticipating?

    Don’t get your hopes up and rush out and place a deposit on a new home. I think that the strength that we are seeing may be only a short term anomaly of the marketplace. So much hedge fund and private equity money poured into the foreclosure market recently that we suddenly ran out of inventory. Up to 60% of recent home sales have been in the foreclosure area. This explains the sudden pop in the average cost of homes sold.

    These funds have set up local management companies to rent out properties and are soaking up 1,000 homes at a throw, looking to sit on them for a decade until the demographic headwind turns to a tailwind. They are encouraged by negative real interest rates, the 30 year mortgage now plumbing an unbelievable 60 year low of 3.75% that made this investment a no brainer for the patient and deep pocketed. The goal is to eventually securitize these holdings and sell them for a premium.

    We are not by any means out of the woods. Pending home sales plunged by 5.5% in April, and March was revised down sharply. The west showed the steepest decline, down 12%. The banks also have a seemingly limitless ability to produce new foreclose inventory.

    The demographic headwind is still at gale force strength, as 80 million baby boomers try to sell houses to 65 million Gen Xer’s who earn half as much money. Don’t plan on selling your home to your kids, especially if they are still living rent free in the basement. There are six million homes currently late on their payments, in default, or in foreclosure, and an additional shadow inventory of 15 million units. Access to credit is still severely impaired to everyone, except, you guessed it, the 1%. Many deals fall out of escrow at the last minute over appraisal issues which fail to meet the banks’ new, more demanding requirements.

    I think the best case that can be made for housing here is that we may finally be coming into an uneasy balance that sets up a bottom for prices which we will bounce along for five to ten more years. This has been made possible by the arrival of an entire new class of buyers, the opportunistic hedge funds.

    The Mad Hedge Fund Trader

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