Reynolds lays out what this new model will look like: "It's going to be comparable to apartment living if you were talking about a life location. By its nature, a lot of build-to-rents are a little further out so you would have to be comparing to like apartments. But you're getting so much more with the build-to-rent and it's fulfilling a need... especially for groups like the Millennial generation that has outgrown apartment living and is looking for more space and more privacy and their families are growing. So... build-to-rent really fills a nice need there."
These elevated rates are however being offset by a lack of supply. CoreLogic projects that year-over-year home price gains will continue to rise at a slower pace for the rest of 2024. This could mean more of a foothold for potential homebuyers.
But the barriers are real. A Zillow report from February says new home owners need to earn more than $106,000 annually to be able to buy a home in the US. That's an 80% jump from what Zillow projected a household could comfortably afford in 2020. Now with the Federal Reserve expected to cut interest rates this year, many are hoping we could soon see some relief in the housing market. We cover all of this and more I'm Yahoo Finance's "Real Estate-- The New Reality"
Joining us now as part of our week long special "Real Estate-- The New Reality" is David Reynolds, who is the Mill Creek president of investment management. Great to have you here with us. First and foremost, just break this down. What is the growth that we're seeing in this rental home market or the Build-to-Rent type market?
DAVID REYNOLDS: Yeah, now, the Build-to-Rent market, it's a relatively new concept. And just to define what it means, it's a purpose-built community of single family homes available for rent. And these communities typically have amenities and they have dedicated property management. And if you look at the total universe of BTR today, it's about 340,000 homes. And the expectation-- this year stats are expected to be somewhere between 50 and 60,000, and that's down from a peak of 90,000 just a few years back.
BRAD SMITH: So Build-to-Rent, but then on the other side of this is there the opportunity for some of the tenants to be able to rent to own one day as well?
DAVID REYNOLDS: Well, there are concepts-- there are groups out there that are looking at doing things like that. That's not what we do. We're fully focused on the build-to-rent product and we like the product. We're filling a need in the market, and it's an affordable alternative. And it's appealing across generations.
BRAD SMITH: And so affordable right now because there are many people that are perhaps blocked out from making a purchase, especially with mortgage rates, the level that they are right now. And so without a cutting process initiated by the Fed on rates, you know, how long is Build-to-Rent going to have some legs in this near-term period of time, from your estimation?
DAVID REYNOLDS: Build-to-Rent is definitely going to have legs for the long-term. If you look at the institutional ownership of single family rental, it's only 5%. And single family rental represents about 11% of the total housing stock in the US. It's about 15 million single family rental homes, and at 5%, that means institutional owners only currently have about 750,000 homes.
BRAD SMITH: How does the Build-to-Rent pricing compare to typical apartment pricing or typical other rental unit pricing?
DAVID REYNOLDS: It's going to be-- it's going to be comparable to apartment living if you were talking about a like location. By its nature, a lot of build-to-rents are a little further out, so you'd have to be comparing to like apartments. But you're getting so much more with the build-to-rent, and it's fulfilling a need, especially for groups like the millennial generation that has outgrown apartment living and is looking for more space and more privacy, and their families are growing. So Build-to-Rent really fills a nice need there.
BRAD SMITH: Is there any conversion that you later on look at from the Mill Creek side to look at a property and say, OK, this was build-to-rent and now at some point, we would like to list this as a unit or a property for sale? And what is the thinking that goes into that calculus?
DAVID REYNOLDS: That is not our intention. We're built to hold. So we're building, and we're teaming up with institutional investors who want to be in Build-to-Rent because it is viewed positively because it's actually expanding the housing stock in the US, and it's fulfilling a need. So not our intention, most of our investors are long-term holders there, and to the extent, they were not-- we would probably look to see if we could somehow recapitalize and hold the property ourselves.
BRAD SMITH: What are the hot markets that are seeing the most growth in Build-to-Rent?
DAVID REYNOLDS: Well, nationally, most of those are in the Sun Belt-- Sun Belt markets, and there's reasons for that because you have rapid employment and population growth. And they're more friendly towards businesses and so there's fewer barriers to entry. So the hot markets for us are in the Sun Belt. So you're working from West to East, that's Arizona, Denver, Dallas, Fort Worth, Austin, Tampa, Orlando, Atlanta, Charlotte, Raleigh, Durham.
BRAD SMITH: And when you're starting these construction projects as well and kind of breaking ground on a new community, the financing that you would be looking to take on in order to get that started, where are you seeing new partners come in and want to provide that capital and that upfront to make sure that you can break ground and begin and complete construction?
DAVID REYNOLDS: Yeah, now, we're-- that's a great question. We don't close on land until we have all the entitlements in place. Most of our deals, all of our deals actually we're doing with institutional investors. And I'm sorry, Brad, what was the second part of that question?
BRAD SMITH: No, I think you were getting at it, with regard to what the construction costs are and where you're saying, OK, this is--
DAVID REYNOLDS: Oh, yeah.
BRAD SMITH: Yeah.
DAVID REYNOLDS: So what's-- what the investor is requiring has gone up, the unfunded yield on cost. So an unlevered measure is now in the 6.75 to 7% range, and that's up 100 and 125 basis points from its previous peak. If you look at our average cost of what we're building, it tends to be around 350,000 per home.
Things definitely have become more challenging with the rise in interest rates because we finance these with 55%-- 55% debt, 45% equity, and that construction debt has been somewhere around 300 over SOFR, so putting you in the 8-plus range. The expectations are that interest rates will come down and that at completion stabilization we'll recapitalize to a more attractive fixed rate permanent debt.
