listen. markets

If You Build It, They Will Rent

Abdel Hmitti | State Street Corporation

January 18,2018

Delays in home-buying by cash-strapped millennials.

Limited access to home loans. Shortages of affordable housing in growing cities. Around the world, countries are seeing one or more of these factors influencing their housing markets. And while at first blush the trends may appear negative, real estate and institutional investors might be able to point to a possible upside: An in-demand rental market that could be a new source of fixed income.

"A lot of the fixed income stream investors are less frequently found in bond markets," explains Robert White, a Luxembourg-based real estate services partner with Ernst & Young (EY). "For that reason, they need to find their fixed income streams from other sources."

New construction or the "build-to-rent" market, in particular, holds a distinct appeal, some real estate experts say, because new buildings may be less expensive to maintain while commanding higher rents. Greg Rand, the CEO of the online exchange for US single family rentals, OwnAmerica, sees it happening in his business. "Institutional investors in single-family rentals like things that are brand new or as new as possible. Materials and systems are under warranty and have the longest shelf life possible," he says. "And as a tenant, you'd be willing to pay a little more for a brand new house."

Of course, constructing new units requires financing that, rental booms notwithstanding, isn't necessarily easy to come by. In the United Kingdom, banks still smarting from the 2008 financial crisis have been reluctant to extend credit to developers, says Michael Hornsby, a partner and real estate funds leader, also at EY. Investors eager for a stake in the build-to-rent market are overcoming this hurdle by embracing a strategy relatively new to the UK: they're "bridging the gap" and offering to finance developments themselves. Once a building is completed, the investors that financed the project are also the ones to acquire it.

An in-demand rental market that's a promising source of fixed income.

The investors participating in these projects are often pension funds, while those who ultimately occupy the rental units are younger people, meaning that two distinct age groups could benefit from such arrangements. "On the one hand, pensions need stable income streams. On the other hand, young people need access to affordable property," Hornsby said.

This scenario now has proponents in Australia, which, to date, has largely been a "build-to-sell" market. As in the UK, the possible benefits of introducing build-to-rent developments are twofold: more rental units that could combat the country's affordable housing crisis and a possible source of income for investors. "Capital is saying, 'We're investing in build-to-rent in the US. We're investing in build-to-rent in the UK,'" notes Luke Mackintosh, a Victoria-based real estate advisory services partner with EY. "What's the opportunity in Australia?"

But the future of build-to-rent isn't guaranteed down under. The Australian government recently released draft legislation that critics say could impede the burgeoning industry. Meanwhile, experts advise that elsewhere, the build-to-rent market should be approached with a degree of caution. For all the potential upside, individual projects can still go awry for many reasons, from mistakes and delays by developers to unanticipated problems at chosen locations. "In any investment you've got risks," says White. "If there was no risk, there would be no return in this."

Topics: Market conditions

Abdel Hmitti | State Street Corporation

Abdel Hmitti is a Senior Vice President at State Street and head of the Private Equity & Real Estate Fund Services in EMEA.