The economic data surrounding the housing market has been disappointing lately. New home starts are down, sales are light, and mortgage origination volume has collapsed. While these trends have been bad news for mortgage real estate investment trusts (REITs) and mortgage originators, what do they mean for single-family rental REITs like Invitation Homes (INVH 0.49%)?
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The U.S. is in a housing recession
The housing market is already in recession and has been since midsummer, according to the National Association of Home Builders, which publishes the Housing Market Index with Wells Fargo. This recession could have been triggered by the combination of rising interest rates and elevated home prices. Earlier in the COVID-19 pandemic, a large fraction of homebuyers were people looking to move out of densely populated cities, which led to a bull market in housing in other markets, especially in the Southwest and Mountain states.
In 2022, that party came to an end as high inflation became the dominant economic story. Prices for raw materials soared and scarce skilled labor became even more expensive. The Federal Reserve responded by repeatedly hiking the benchmark federal funds rate at a pace it hadn't used since the early 1980s. That pushed mortgage interest rates up, too, which left homes unaffordable for many would-be buyers. Home sales collapsed.
The number of homes for sale is extremely limited
In its latest report on sales of existing homes, the National Association of Realtors said that there were 1.14 million homes for sale at the end of November. That amounted to a 3.3-month supply at the rate at which homes were selling -- well below normal. Existing home sales fell to a seasonally adjusted annualized rate of 4.09 million, which was a decline of 35.4% compared to a year ago.
Invitation Homes owns and rents out more than 80,000 single-family homes in 16 markets, primarily in the Southwest, the Southeast, and Florida. The metropolitan statistical areas in which it operates have experienced some of the most dramatic home price appreciation over the past few years. Invitation Homes focuses on markets with strong job growth, high barriers to entry, and high rent growth potential.
Even if home prices stop growing, rental inflation will continue a while longer
As a general rule, rent inflation tends to lag home price inflation. This is because rents generally get reset every 12 months, and usually, landlords don't bump up rents to the full market level for their existing tenants. Instead, the lease for a property or unit will get reset to the new market level when a tenant vacates.
According to a study by the analysts at CME Group, rental inflation tends to lag home price inflation by 21 months. So, even if home prices stop rising in some of Invitation's markets, rents will keep rising for a year or two. While the California markets are cooling off, Florida remains strong. There remains a shortage of housing in the United States, and rental vacancy rates are currently at 40-year lows.
U.S. Rental Vacancy Rate data by YCharts.
The crisis in affordability also works out to Invitation's benefit. Many potential first-time homebuyers have been effectively shut out of the market for now. This makes Invitation's rental offerings (single-family detached homes) a more appealing second option until wage increases, declining mortgage rates, and home price corrections help bring affordable homeownership back in line.
Rent growth is still robust
Despite softening real estate markets, Invitation's occupancy rate remains strong. As of the end of September, same-store occupancy stood at 97.5%, down about 60 basis points from a year ago, but still quite strong. Same-store new lease growth was 15.6% year over year while renewal lease growth was 10.2%. So while real estate prices largely leveled off in the third quarter, its lease growth was 11.6% on a blended basis.
Shares of Invitation Homes sold off after it delivered its third-quarter report, as management revised its guidance downward. Same-store rental growth is expected to decline to between 8.75% and 9.25%. Invitation now expects its full-year adjusted funds from operations (AFFO) per share will land between $1.38 and $1.42. Based on that, the stock is trading at a multiple of about 21.2 times expected 2022 AFFO per share. And its dividend at the current share price yields 3%. Invitation won't be completely unaffected by the housing recession. However, single-family rental REITs will perform better than most in the housing space.
