INVH - Why The Housing Market Won't Crash In 2023

Summary

• The pandemic resulted in a housing market boom.
• But the pandemic is now behind and prices are starting to cool off.
• I share my thoughts on the housing market and explain how I am positioning my portfolio to profit.

The pandemic caused a historic bull run in the housing market.

Suddenly, people wanted to move out of cities and started to buy homes in the suburbs.

They wanted more room because a lot of places were closed anyway and it is nice to have extra space if you are going to just hang out at home.

Moreover, a lot of people started to work from home, and so an extra room or two was suddenly needed for a home office.

At the same time, interest rates were cut to 0%, allowing people to take on 30-year mortgages with rates as low as 2.5%.

The surge in demand for housing was unprecedented, but it wasn't matched with enough new supply because the pandemic also caused severe supply chain issues.

It causes home prices to explode to the upside, especially in the rapidly growing sunbelt markets like Miami, Phoenix, and Austin:

But as you can see above, this is now starting to reverse!

The pandemic has slowly run its course.

Things have returned to normal, people are still social creatures, and they are returning to cities.

More and more people are also returning to the office, reducing the need for a home office. Walmart ( WMT ) is the latest big company to request its tech workers to come back to the office.

And perhaps most importantly, the era of free money is now over. Interest rates have had a historic surge and mortgage rates are now more than twice as high in many cases.

As a result, housing is now extremely unaffordable. According to some metrics, it is much less affordable than even leading up to the great financial crisis.

The only chart that you need to see is this one:

This begs the question:

Who is the marginal buyer here?

Regular people can't afford a home...

Private equity players like Blackstone ( BX ) are seeing more outflows than inflows from their open-ended real estate vehicles.

Single-family housing real estate investment trusts ("REITs") Invitation Homes Inc. ( INVH ) and American Homes 4 Rent ( AMH ) are priced at steep discounts to their net asset value and can't raise more capital to buy homes without diluting shareholders.

And even wealthy cash buyers are now reluctant to buy homes because they are historically expensive, even as they are presented with lots of opportunities in the stock and bond markets.

So the demand for housing is now COLLAPSING .

But does this mean that home prices are about to drop?

Well, it actually isn't quite that simple.

Yes, new demand has declined significantly, but so has the supply of homes for sale.

Developers know that the demand is down and they won't build more because the environment is too uncertain and the risks are too great.

At the same time, if you are a homeowner, you have no incentive to sell because what are you going to do next? Buy another home? Move to an apartment? If you managed to lock in a low 3% interest rate, you may as well stay put.

So people are reluctant to buy but they are also reluctant to sell... and this is precisely why no transactions are happening. People can't agree on the price because there is too much uncertainty.

Interest rates could suddenly shift lower as we get inflation back under control and the Fed turns to stimulate the economy.

So I actually think that a housing crash is unlikely, despite what you read all over the place. I think that it is more likely that the housing market cools down and that things slowly return back to normal as interest rates return to lower levels.

What's the Best Way to Profit from this?

Look back at this chart.

Flip this, and it gives you a very strong bull case for apartment communities:

People cannot afford to buy homes and so they have to rent instead.

Even if you wanted to buy a home, you would likely decide to wait a bit and rent for longer instead.

This caused a historic surge in apartment rents in 2021 and 2022 with apartment communities, especially in strong sunbelt markets, growing their rents by 10-20% in a single year.

This growth will slow down in 2023 as new supply hits the market, but the demand for apartments remains strong even today in the sunbelt markets.

BSR REIT ( BSRTF / HOM.U) is an apartment REIT that specializes in Texan markets and it just recently gave an update for its 4th quarter performance. It managed to grow its rents by 6% and its occupancy also rose from 94.7% to 96%:

I think that this is very bullish for all sunbelt-focused apartment REITs, including Mid-America Apartment Communities, Inc. ( MAA ), Camden Property Trust ( CPT ), Independence Realty Trust ( IRT ), UDR, Inc. ( UDR ), and NexPoint Residential Trust, Inc. ( NXRT ).

It is especially bullish because all of these REITs ( VNQ ) dropped significantly in 2022 even as they grew their rents to new all-time highs:

In many cases, these REITs dropped by ~30% even as they grew their cash flows by ~10%, which means that their valuations have been nearly cut in half.

At this point, many of these REITs are priced at huge discounts relative to the value of the real estate they own, net of debt. BSR, as an example, recently reported that its NAV per share is $22.35 per share and in an exclusive interview with High Yield Landlord, they explained that they don't expect any significant change to their NAV in the near term. Despite that, the shares are today offered at just $14, representing a 35% discount relative to what you would pay for these assets in the private market.

It appears that the market has priced apartment REITs as if they were single-family homes, expecting a crash in their value.

Yet, apartment REITs actually benefit from housing being so unaffordable. They indirectly benefit from the surge in interest rates as it increases the pool of renters and the pricing power of apartment communities.

These REITs have strong balance sheets with low debt and long debt maturities so the surge in interest rates won't materially impact their profitability in most cases.

If you are interested to get into the housing market, a good bet might be to invest in discounted apartment REITs today, and as they recover, you can then take these proceeds to make your way into the housing market once interest rates return to lower levels.

Bottom Line

Housing is extremely unaffordable right now.

But that does not mean that home prices will crash. There is little supply as people are reluctant to sell at this time and I don't expect this to change.

But indirectly, this benefits apartment communities as it grows the pool of renters, and apartment REITs happen to be deeply discounted today.

That's where I am investing today to profit from this housing market.

For further details see: