Berko: The problem with rental homes
Friday, May 16, 2014 6:00 AM
Dear Mr. Berko:
What do you think of American Homes 4 Rent? I bought 300 shares at $17 in January.
The raw power of Wall Street money, descending upon recession-ravaged cities and scooping up distressed homes, is responsible for a 30 percent rebound in single-family home prices since early 2011. In the past two years, Blackstone (the largest owner of single-family homes) spent $8 billion and purchased 43,000 single-family homes in various states of despair and repair. American Homes 4 Rent raised $3.6 billion, buying 22,000 homes, and Starwood Waypoint Residential Trust raised about $800 million to acquire 5,700 single-family homes. Today Wall Street owns over 100,000 homes, flipping foreclosures into enough single-family homes to populate several fair-sized cities. In the past few years, Wall Street probably raised $18 billion to purchase houses, repairing and replacing flooring, wiring, carpets, doors, roofs, sinks, toilets, windows, air conditioners, etc., making them habitable. But I think Wall Street and its new single-family home real estate investment trusts made a multibillion-dollar mistake, and I won’t put my imprimatur on any of them, including American Homes 4 Rent (AMH-$16.75). Here’s why.
Managing a 600-unit rental apartment complex can be accomplished effectively and efficiently by a real estate management firm with a couple of trucks and a small crew taking tenant calls and walking the complex. But managing 600 rental homes in sprawling Cleveland is a horse of a different color, especially if property manager employees must spend time traveling to far-flung homes in a dozen disparate neighborhoods. It becomes too darn costly to patch a roof, replace a window, repair a toilet, plug a pool leak or fix a stove when one house is located miles from the other houses. It’s estimated that the cost to lease and maintain 600 homes in Cleveland, Columbus or Cincinnati is nearly three times the cost to lease and maintain 600 units in an apartment complex.
And it doesn’t stop there. Rent a reconditioned house to most middle-class American families, and in about a year, that house devolves into a veritable piggery. Too many American families live like slobs and don’t give a hoot about the houses in which they live. They’d sooner spend $7,000 for an entertainment system or $9,000 for an all-terrain vehicle and a snowmobile than they would water a parched lawn or maintain an overgrown yard. Then they’ll park a $40,000 sport utility vehicle and a $31,000 sedan at the curb because the snowmobile and ATV are in the garage, along with boxes of toys and used clothing, a cracked toilet, a truck transmission, old tires, a rusted Maytag, stacks of Playboy, a porcelain sink, coils of wire, four boxes of motor oil and 10-foot sections of used plastic pipework. The inside of that house, but for the smell of bacon grease, stinks like a stockyard. Lots of families don’t give a fig or ficus about their mess, and the unkindest cut of all is that many of those folks are your neighbors. Eventually, these tenants will morph into an ugly, metastasizing cancer slowly infecting the values of all the homes in your neighborhood.
These are the tenants to whom American Homes 4 Rent leases its properties. And this is the market from which AMH will derive nearly $373 million in rental income in 2014 while booking a $44 million loss and paying a dinky 20-cent dividend. Next year and the year after, AMH may report even better results. But those homes will continue to deteriorate, and their values will continue to decline as maintenance costs increase. And soon AMH will begin scrimping on maintenance because its shareholders (AMH yields 1.2 percent) will demand higher payouts. And as its properties fall in value, AMH will start selling some houses (invading your principal) and using the proceeds to pay for increased maintenance costs on existing homes. Sell AMH; in a few years, it may be trading at $10.
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