Why its the best time to invest in single family rentals!!

Question

Hi Everyone, we have been acquiring single family rentals (>10% cap rate) in St.Paul and Minneapolis the last 12 months and we are noticing the demand for affordable single family rental (1100 - 1500)  is increasing exponentially. This is noticed by many and I want give our view of why this is going on and our prediction on the future state:

1. Demand- is being being outstripped by the low supply of affordable (=< 200K) single family homes (lowest inventory in history). This in turn cause the supply of rent-able single family supply to be even lower. With the tighter lending standards by banks and the "wait and see" attitude of the millennials, we predict the demand for single family rentals will continue to increase over the next 3 years.

2. Supply - The average backlog for builders in MN are  3-5 years and with the tighter immigration policy, the backlog may get longer. As construction industry is seeing shortage of qualified labor and higher turnover. We had predicted last year the supply would not catch up with demand for 4 years, but we are pushing out that time line out to 5-7 years.

3. Job market - Historically, rental market in general is tied to job market, US job market is stable and will continue to be so for the foreseeable future. While I am not crazy about the growth, we will be the most stable economy in the world and that will keep the pool of qualified renters filled.

4. Competition - While we are seeing new apartment complexes being built, those tend to be high rental fees and does not compete with affordable single family rental.  Our renters much rather pay $1200 to 1$500 for a 2-3 single family home than pay the same amount for a 2-3 bedroom apartment, which if you look at the new apartments, will not get you much....

Again this is based on our simple view and we would love to hear your feed backs and takes on the rental market. thanks.

Lee

Thomas S. · Answer

Realistically there is no way to experience a 10cap with rents at $1200 - $1500 on a $200,000 - $250,000 property in the form of a SFH. Not possible based on historic rental/investment data.

UNLESS you are only looking at yesterdays expenses.

You can not deny the historic numbers. Expenses on a SFH historically over the life of a property...50%, Mortgage payments @ 4% on 200K = $950/month, @4% on 250K  = $1180/month. I can not see positive cash flow let alone a 10cap on a SFH.

Big down side is when the markets turn the SFH investor will always be the hardest hit. Now is the time to get out of SFH investing not in. Potential future risk is far too high.

Lee Yan · Answer

Also I want note that we are charging 1200+ for 2 bed single family and 1400+ for 3+ bed in those areas and we are not seeing demand going away any time soon. thanks.

Andy Schornack · Answer

I think you are skewed in Canada. Local Minnesota market still okay with deals being had. Now not the screaming deals of 2012 and 2013 but still good value.

Ryan Tuleja · Answer

I've been in construction for over 20 years, so I feel comfortable agreeing with a couple points, and I'd like to add..."2. Supply - The average backlog for builders in MN are  3-5 years and with the tighter immigration policy, the backlog may get longer. As construction industry is seeing shortage of qualified labor and higher turnover. We had predicted last year the supply would not catch up with demand for 4 years, but we are pushing out that time line out to 5-7 years."

Immigration policy will absolutely impact the ability to build. Hiring in general over the last several years has been very difficult, especially in the skilled trades. This will be just one more challenge that will "trickle up". Additionally, one of the major issues with building here in Minnesota is the Tax and regulatory environment. I read an article about a builder who was putting up identical homes here and in North Dakota who said just code compliance issues here elevated his cost of building by anywhere from $15-25,000!

As a recent transplant from Denver, I can personally attest to the elevated cost of building and working here. Managing commercial projects here I anticipate a minimum of 10% increase in labor costs and pretty close to the same in tax burden over the same type of projects in Denver...

Definitely interesting times we live in...

Lee Yan · Answer

We are seeing a higher demand for rental properties YOY since 2013 and we believe this trend will continue for the next 5-7 years. Below are a list of factors we have analyzed to support our outlook and the decision to continue expanding our rental portfolio

1. Demand- is being outstripped by the low supply of affordable (=< 250K) single family homes and affordable multi-family rentals (lowest inventory in 20 years). This market pressure will likely increase as builders stopped building houses under $350k due to thinning profit margin. With the tighter lending standards by banks and the "wait and see" attitude of the millennials, we predict the demand for median single family rentals and affordable small multi-families ($1200-$1500) will continue to increase over the next 4 years.

2. Supply - The average backlog for builders in MN are 3-4 years, which is further pressured by shortage of qualified labor and higher turnover/costs. We had predicted last year the supply would not catch up with demand for 4 years, but we are pushing that time line out to 5-7 years. (While tighter government policy may lead to less immigrant population, it will only affect certain housing pockets around Minneapolis/ St. Paul)

3. Job market - Historically, rental market in general has been tied to the job market; US job market is stable and will continue to be so for the foreseeable future. While we are not crazy about the growth, U.S will be the most stable economy in the world. This and the supply pressure will keep the pool of qualified renters filled for the next 10 years.

4. Competition - While we are seeing new apartment complexes being built, those tend to be high rental fees and does not compete with affordable single family/small multi-families.  Our renters much rather pay $1200 to $1500 for a 2-3 bed single family or 3 bedroom apartment than pay the same amount for a 1-2 bedroom apartment in the newly build apartments.

5. Bubble – This type of investment is independent of the state of the housing market, as we are supported by stable cash flow and not the outcome of the market price. It is not cash intensive as flips and can be managed part time or through a rental company. We would argue flipping is getting too competitive at the moment and margin is tighter as people are fighting over limited supply of rehab potentials. I also would avoid flips unless you have the necessary knowledge and can do some of the work yourself. The housing market value is increasing at a historical pace but is there should be slight correction in the next few years.

6. Rental rates – YOY we have increased our rent by average of 15%. Our portfolio consists of duplex, four-plex, single family, townhomes and condos. We are seeing the highest increase in single family homes, followed by 3 bed+ units and 2 bedrooms units.

Lee Yan · Answer

Hi David, thanks for the feed back. I should clarify we are talking about single family homes including "suburbs" around Minneapolis (SE Como, North, Marcy Holmes) and St. Paul  (North End, Dayton Bluff). The immigrations effect I'm referring to is in regards to construction work force, as couple of my partners are in the industry and they are seeing higher turn over and are worry about the work force/rising cost of labor due to tighter policies. You are right the demand for rentals by immigrants might go down, however, I see that effect isolated to areas in certain pockets around Minneapolis and St.Paul. You are also right about the hard to find properties, as we are only seeing those coming up sporadically mainly from people looking to retire or moving out of state.

David Moore · Answer

@Lee Yan

I don't see the connection between tighter immigration policy and stronger demand.  If anything, the opposite will occur.  As immigrant tenants are lessened, demand goes down.

I'd like to see your numbers on how you are getting a 10 cap.  I'm not a fan of investing in Minneapolis.   10 caps are available in more investor friendly suburbs...but they are hard to find.

Marc Jolicoeur · Answer

Lee,

I agree with your assessment and your predictions.

I think one of the major issues is that builders are not building any new inventory =<300k.    I am guessing that it is because they can't make enough profit due to rising costs of land, labor, and materials.

Even flippers nowadays are targeting high end projects in order to make a nice spread.

The 1100-1500 rental will remain in high demand for the foreseeable future.

Why its the best time to invest in single family rentals!!

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