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CRE Finance World, Autumn 2013

A publication of Autumn issue 2013 sponsored by CRE Finance World Autumn 2013 47 a few years of operating history. Therefore, the ability to respond locally and have the knowledge to make wise decisions would yield a number of questions for a potential issuer: Does the sponsor concentrate on certain markets? What demographic characteristics are considered? Is there a critical mass of properties to make the local operation cost effective? Management of the army of contractors and sub-contractors required to get the properties in rent ready condition, with an acceptable level of quality, is also a challenge. Strong central management information systems integrated to local teams with remote technologies such as an IPad, can effectively mitigate the risks associated with quality control, by allowing managers to know what type of work is being performed, when and by whom. Furthermore, attention must be paid to the qualifications of the contractors and the experience of the manager who is overseeing them. Ever since the construction industry imploded in the late 2000s the SFR issuers have had their pick of the best contractors the local markets had to offer. They have also enjoyed substantial bargaining power in negotiating the work that needed to be done in specific time budgets. With the return of the construction industry, the quality of available contractors is expected to decline, and the time budgets should extend. Post-closing Administration The administration of SFR portfolios has many operational challenges. Operators need to strike a balance between local presence and centralized control. Local staff is necessary for the operator to ensure that properties are being properly maintained by the tenant. Also, local staff is necessary to handle the various maintenance issues that need attention, such as plumbing, HVAC, or broken appliances in a timely manner. Multifamily properties often have on-site maintenance staff to handle many of these types of issues. However, an operator of an SFR portfolio has to be able to provide maintenance and management services to a disparate group of properties throughout a city or region. As a result, staffing in this kind of model is challenging. Large multifamily properties often have on-site management offices staffed with employees responsible for showing vacant apartments, screening potential tenants and reviewing rental applications and collecting rents. For SFR properties, this set up is not possible. SFR operators, therefore, must decide whether to maintain an in-house leasing staff or to hire outside brokers. While maintaining an in-house staff could lead to better operational controls, depending on the operator’s local presence, it also may be more expensive. Losses and Workouts Modeling loss severity in the event of delinquency would likely emulate the RMBS market which projects potential market value declines and has elements of distressed sales built into those declines. However, there are a number of important differences associated with the sector. First, the pools are likely to be situated in the most distressed markets in the U.S. where the potential demand for home rentals would be the most significant and the credit of the renters the most damaged. Arizona, Florida, and California, for example, have significant concentrations of SFR. This concentration helps in terms of making operations more efficient, but it would hurt if there was a shock to a particular housing market. In addition, while it is almost impossible for issuers (purchasing thousands of homes) to adversely impact the national SFR market through their operations, it is possible for competing issuers to influence local markets by purchasing homes in specific areas, driving up the costs of renovation, management, and the homes themselves. Indeed many of the early entrants have stopped purchasing homes in the most common SFR markets, due to this saturation. Properties of a similar type that are clustered in different neighborhoods will likely display a high correlation in performance, increasing the risk to the bondholders within a securitized structure. Such movements can be observed in empirical CMBS data by examining correlation of cash flows across similar property types and geographic locations. For example, CMBS properties of a similar property type in the same city exhibit multiple times more correlation in annual cash flow (and ultimately value) than their peers. This same level of analysis for cash flow and asset level correlations at a granular level beyond the MSA must be completed for the residential housing market. Chart 2 CMBS Property Level Cash Flow Correlations Single-Family Rental Securitization


CRE Finance World, Autumn 2013
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