Wall Street Keys On Landlord Business

The Wall Street Journal

Some of the biggest names on Wall Street are lining up to become landlords to cash-strapped Americans by bidding on pools of foreclosed properties being sold by Fannie Mae.

The idea is that the new owners would rent out the homes at first rather than reselling—potentially aiding a housing-market recovery by reducing the number of properties clogging the market. The fact that big-name investors are interested also suggests they anticipate sizable future profits in housing.

Bulk sales, however, pose a trade-off. While the current approach of selling homes one-by-one has its own high costs and is sometimes inefficient, selling properties in bulk to large investors could require Fannie Mae to sell at a big discount, leading to larger initial costs. It is unclear which would be least costly ultimately to taxpayers, who are responsible for the big mortgage-finance company's losses.

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Purely in dollar terms, the sale would be small by Wall Street standards. But it could offer clues about whether investors are willing to pay prices high enough to entice Fannie Mae—along with its sibling Freddie Mac, federal agencies and banks—to do more bulk-sale deals in the future.

Currently, banks selling through regular real-estate listings are getting more than 90 cents on the dollar of their asking price, according to industry analysts. They could be reluctant to unload properties in bulk if it means selling for much less.

Firms considering bids include New York-based broker-dealer Amherst Securities Group and a fund run by mortgage-bond pioneer Lewis Ranieri. Hedge-fund manager Paulson & Co. and private-equity investors Colony Capital LLC are also considering bids, according to people familiar with the process.

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The sale consists of 2,500 homes divided into eight regional pools, ranging from 572 properties in Atlanta to 99 in Chicago. The total current market value is $320 million, according to an offering document prepared by Credit Suisse, which is advising Fannie.

"We're investing a lot of capital, a lot of time, with the expectation that this is a very small beginning to a very big movement," said Sean Dobson, CEO of Amherst. Last summer the firm won 50 properties auctioned by Fannie in Dallas and confirmed that it plans to bid on some of the pools up for auction now.

Spokesmen for Fannie Mae and Credit Suisse declined to comment on the sale.

The deal with Fannie would require investors to rent the houses out and hold them off the market for several years.

Some prospective buyers are betting that the housing market will improve more quickly if big investors step in. "Some of these markets are very close to being stable, and this will accelerate that stabilization substantially," said Mr. Ranieri, the pioneer of mortgage bonds who is considering bidding on some Fannie parcels with local partners.

Throughout the housing downturn, Wall Street money has dabbled in foreclosed single-family homes. But until now, the number and size of deals have been small because buyers have demanded steep discounts. Fannie and Freddie have resisted because they say they are able to recover more money selling properties one at a time.

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But over the past year, rents have risen as home prices—pressured by foreclosures—kept sliding. Investors have started buying up houses to offer as rental properties. And Fannie has a massive number of properties in the foreclosure process that, sooner or later, it needs to sell.

One reason investors are thinking about buying large numbers of single-family homes and renting them out: It promises a relatively high return compared with other investments right now.

Economists at Goldman Sachs estimate the annual yield on an investment on rental property nationwide averages about 6.3%, but can exceed 8% in cities that were hit hard during the housing bust, including Las Vegas, Detroit and Tampa. By contrast, mortgage bonds have average yields of just over 3%, and investment-grade corporate bonds are yielding about 3.5%, according the Barclays Capital U.S. Investment-Grade Index.

Warren Buffett, considered a sage investor and chief executive of Berkshire Hathaway Inc., said in an interview with CNBC-TV last month that he would buy up "a couple hundred thousand" single-family homes if he could do so easily, given the high yields on rental investments.

Fannie and Freddie, which hold around half of all foreclosed properties, had an inventory of 180,000 homes worth some $14.7 billion at estimated end-of-2011 market value.

Last year Fannie sold more than 240,000 homes, primarily one at time, to people looking for a home to live in or to small investors who would either rent or resell them.

The vast majority have been sold the traditional way—listed with local brokers. Small numbers get sold in bulk sales or auctions.

Fannie's testing of bulk sales is an effort to see whether it can attract a new type of buyer. Fannie could end up keeping a stake in the pools of properties.

Not everyone agrees that selling in bulk to big investors is the best option for the housing market. Some say it would be more helpful if Fannie and Freddie instead made loans more available to small local investors.

"A pretty robust cottage industry has developed and is absorbing this at an incredibly fast pace," said Richard Smith, chief executive of Realogy Corp., which owns the Coldwell Banker and Century 21 real-estate brands.

Some 800,000 former owner-occupied homes are being converted to rentals each year, according to estimates by Barclays Capital, a sizable figure considering that last year a total of 4.3 million previously owned homes changed hands.

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It isn't clear whether Fannie will get better prices in bulk sales. During the fourth quarter, Freddie Mac reported that prices in a number of markets had stabilized on its foreclosed properties. "The bids are likely to be too low" on the bulk sales given investors' desire for high returns, said Ivy Zelman of housing-research firm Zelman & Associates. "Everyone would like this to happen, but from an economic perspective, they may not be better off this way, unless Fannie provides leverage."

So far, Fannie and Freddie have largely resisted bulk sales, arguing that bulk investors are offering prices that are too low compared with their retail sales. Last year, Fannie lost around 35 cents on every $1 of debt that went through foreclosure.

Some larger investors are circumspect about potential returns. Rialto Capital Management LLC, a unit of home-building company Lennar Corp. that invests in distressed debt, has rented out some of the 300 single-family homes it has acquired from buying distressed loans from the Federal Deposit Insurance Corp.

While Rialto is considering a bid on the Fannie properties, Lennar's chief executive, Stuart Miller, cautions that it is more difficult to get a "responsible return on capital" after accounting for the costs of renovating, managing and leasing the homes. "The challenge…is to be able to review each of the assets and properly assess all of the costs," he said.

Other large investors are partnering with local firms. American Residential Properties, a company based in Scottsdale, Ariz., that has bought close to 800 foreclosed homes over the past four years, is looking to team up with the likes of Mr. Ranieri. "There's a lot of people with a lot of money very interested in this, but you can't start from 10,000 feet," said Mr. Ranieri.

Fannie is requiring interested investors to go through an application process that will scrutinize both their capital backing and their property-management capability. "There's a political element to this," said John Burns, a home builder consultant in Irvine, Calif., that is advising several bidders. "You want to get the highest bid, but you definitely want somebody who's taking care of the tenant."

The deal being marketed consists primarily of already-rented single-family homes around the country, including in Florida, Arizona and Southern California.

Most of those units were leased to tenants when Fannie foreclosed on them and will be sold as occupied units.

They represent just 2% of the nearly 120,000 foreclosed properties that Fannie Mae held at the beginning of the year, and the company is likely to continue to sell the vast majority of its foreclosed properties through retail channels.

Bids are due by mid-April, according to the offering document prepared by Credit Suisse, and officials are looking to complete the first transactions by late May.


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