Last Cast Letter #8: Buffett's Big Bet

Hi All - Happy Thursday. It’s the last day of the month, which means it’s time for the Last Cast Letter.

As I write this, Hurricane Idalia is making its way across Florida’s “Big Bend”, where the panhandle meets the peninsula. It made landfall as a Category 3 storm and will undoubtedly leave damage in its wake. Just last week, the Wall Street Journal published a piece titled, “Are We Ready for a $100 Billion Catastrophe? How About $200 Billion?” In short:

The article touches on what I wrote about last month so I thought it was worth mentioning and reading if you have the time. Today’s edition isn’t another trip down the insurance rate rabbit hole, but some of the figures in the article stuck out to me, so I thought it was worth including quickly:

Pretty wild stuff. Anyway, as we watch Idalia unfold, I wanted to use this month’s edition to examine some overlapping trends that were covered fairly extensively over the course of August. Without burying the lede, it was a big month for homebuilders and the single-family rental sub-sector. They’re both related, and I’ll explain why below, but here’s a quick recap of some of the headlines that cropped up over the past 30 days:

• MetLife single-family fund close signals bullishness on rental market Jessica Hamilin, Pitchbook: "MetLife Investment Management announced on August 15th the close of its MetLife Single Family Rental Fund with $390 million in committed capital, a sign of confidence in the shaky rental market. The fund will focus on acquiring and developing single-family rental units across the US. ... inflated single-family housing prices kept would-be first-time homebuyers in the rental market. In Q1 2023, PitchBook analysts deemed residential real estate a dominant sector focus among the top 10 largest real estate funds that were expected to close. And while the sector remains dominated by multifamily rentals, single-family rentals have become more prevalent in private market funds."

• Warren Buffett bets big on homebuilders Staff, The Real Deal: "A shortage in existing home inventory is elevating home builders across the country, and the Oracle of Omaha appears to have taken notice. Warren Buffett’s Berkshire Hathaway disclosed $814 million in investments across [D.R. Horton, Lennar and NVR]. The move from the world’s most famous investor reflects how builders are capitalizing on this moment of limited supply, even as higher mortgage rates have cast a chill on home sales."

• ARK Homes for Rent Targets $2 Billion Investment in Single-Family Rental Veritcals REW: "ARK Homes for Rent has announced today that it is finalizing plans with strategic investors that will allow it to invest up to $2 billion in single-family rentals (SFR) and built-to-rent (BTR) communities."

• Single-Family Rental Space Shows Strong Fundamentals in 2023: Report Brian Pascus, Commercial Observer “Single-family rentals are expected to remain a long-term player in the commercial real estate asset class world — and millennial renters will be the engine that drives that growth. That’s the conclusion from Yardi Matrix in the commercial real estate research and data firm’s August 2023 report on the national single-family rental (SFR) space. The report concluded that while high-interest rates have tempered rent growth and acquisitions in the first half of 2023, demand for the product remains strong and is expected to thrive as millennials age out and begin to look for an inexpensive alternative to homeownership and apartment rentals.”

Quick Sidenote: The words “Millennials” and “Real Estate” react to each other the way two magnets do when you try connecting the same poles: repulsion. Right now the avocado-toast-loving age group (of which I am one) is currently between 25 and 40 years old. This means that 15 years ago, the now 40-year-olds were 25 years old, navigating the Great Financial Crisis. Today’s 25-year-olds have historic rate hikes to contend with. During that stretch, massive migrational shifts unfolded thanks to the pandemic. It’s been an interesting ride, to say the least.

Moving on, as you can see from the headlines above, many institutional real estate investors (but not all) are bullish on single-family homes. Why? There are a few reasons, but the biggest one comes down to supply and demand.

• According to the National Association of Realtors, the United States is currently experiencing a housing shortage of between 5.5 and 6.8 million units.

• “This shortage is partly due to a decline in new construction, which has failed to keep pace with population growth and demand for housing,” Norada writes.

• “Another significant factor contributing to the housing shortage is the rising cost of construction materials, including lumber, steel, and concrete. The COVID-19 pandemic has disrupted global supply chains and caused shortages of raw materials, driving up costs and delaying construction projects.

• In addition, tariffs on imported materials have increased costs for builders, making it more challenging to construct affordable housing.

• Regulatory barriers also play a role in the housing shortage. Many local and state regulations, such as zoning laws and building codes, can drive up the cost of new construction and limit the supply of affordable housing.”

• Work from home increased the demand for space, Axios adds.

Now above, I said Buffett’s homebuilder stock buying spree and the increased interest in SFR are related. The reason can be summed up in one word: scale. Meaning, if you have conviction in the idea that the US is incredibly undersupplied when it comes to new and existing single-family homes, how can you get exposure to the thesis on a national level? Well, that would be either buying shares of the homebuilder stocks or partnering with homebuilders themselves.

For example, this headline also came across the tape this past month: Lennar pays $49M for Lake Worth dev site for 166 homes. The national homebuilder – and one of the stocks Buffett bought – acquired a former equestrian site in Lake Worth, Florida with plans to redevelop the property into 166 single-family homes. Lennar and BH Group – a Miami-based REPE shop – are also building 103 homes near Aventura.

It would also be an operational nightmare to build something like this from the ground up. I know groups are doing it, but for the big guys, it helps to buy in bulk, and it’s really the only way they can deploy the amount of capital they need to.

Now, there are some headwinds in the space and big buyers are much pickier given where rates are hovering. Last August, Home Partners of America, the single-family landlord owned by Blackstone, announced it would stop buying homes in 38 US cities. The company cited home price appreciation, state and local regulations, and market demand for the pause. Blackstone said they are still actively buying homes in more than 20 of the country’s highest-growth markets.

Rents are also slowing, according to CoreLogic. “Annual single-family home rent growth eased for the 14th consecutive month in June, registering a 3.3% gain, which remains in close range of the pre-pandemic growth rate.” On a local level, “Chicago led the nation for year-over-year rent growth in June 2023, at 6.6%. Meanwhile, Las Vegas posted an annual rental cost loss for the fourth straight month, at -1.2%.”

So, as with everything in life, the Single Family Rental play is nuanced, and not easy. It will heavily depend on specific markets and macroeconomic trends, like the trajectory of interest rates.

I’ll leave you with a few final thoughts.

First, In March 2023, investors accounted for 27% of all single-family home purchases. In June, that figure was 26% according to a new report by Thomas Malone of CoreLogic. I don’t know this for a fact, but my guess is that a healthy portion of these purchases were all cash, with the goal of refinancing when rates drop. Something I wrote about a couple of months ago. These firms also have massive lines of credit with favorable interest rates which generally allow them to close deals quicker than the retail cohort as well.

Secondly, if you’re in the market for a single-family home, is now a good time to buy? I talk about this with my friends in the industry all the time. Again, the answer depends on multiple factors like specific markets, your personal financial situation and goals, etc, but it’s a perfect question to banter back and forth about over a beer. The answer is I don’t know, but my hunch is you’re damned if you do and damned if you don't.

You’re damned if you do because of where rates are right now. 7.5% on a 30-year fixed? Sweet. You’re damned if you don’t because if and when rates do come down, then a ton of people will rush back into the market and push prices back up again.

And One More Thing

One final thing I’m curious about is what will happen to home prices when boomers feel like they can move again. Right now we’re also dealing with the "lock-in effect". This is the idea that homeowners “are reluctant to sell their properties—and buy something new—due to the financial shock that would come with losing their historically low mortgage rates for something with a 6% or 7% handle,” Lance Lambert writes for Fortune.

If more existing homes come online, then maybe the “damned if you don’t” part above won’t be as bad and the market will stabilize. As a Millennial, one can only hope.

So, there you have it. That’s what I’ve been thinking about this month. Send thoughts – good or bad – my way. And, as always, if you’re interested in investing alongside us, please fill out the investor form below.

— Brooks

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