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One Percent’s Rental Nightmare: How Wall Street's Scheme Blew Up in Its Face

Big Money investors thought they had the perfect plan. There was just one huge problem.
 
 
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I’ve followed the  Wall Street rental scheme for some time. You know the basics by now: Big Money investors decided to buy up all the foreclosed properties their pals at the banks created during the financial crisis, and rent them out to many of the same people who lost their homes. Then, they started selling securities backed by the rental revenue, just like the mortgage-backed securities from the crisis. Profiting off their own failure: It was Wall Street’s perfect plan.

There was just one problem: turns out that institutional investors have no idea how to manage rental properties.

That has become clear through a series of new statistics from early investors, who regarded themselves as the trailblazers of a hot new asset class. For example, nobody has purchased more properties and converted them into rentals than Blackstone, holders of roughly 45,000 nationwide. Invitation Homes, a Blackstone subsidiary, issued the first rental-backed security  last November, and just released its first of this year, 2014-SFR1, worth $1 billion and based on 6,537 properties in selected markets, including Phoenix, Atlanta, Sacramento, California, several parts of Florida and Riverside County, California. Yet while these areas have tight housing inventory, vacancies at the Invitation Homes properties  have surged.

As of May 31, the vacancy rate for the homes in 2014-SFR1 stood at 7.3 percent, a 33 percent increase over the previous month. It’s not a fluke: Vacancy rates for Invitation Homes’ initial rental-backed security from last year have spiked to a  higher-than-expected 8.3 percent.

That doesn’t sound so bad, until you consider that the apartment vacancy rate for the entire United States is  4.1 percent, around half of the Invitation Homes rate. By one study, occupancy in the second quarter of 2014 was at its  highest level in 13 years. In fact, we’re in the midst of a rental housing crisis in America, with demand on the rise and not enough supply to meet it. That’s why rental prices  have risen consistently, up 3.4 percent over the past year, despite flat wages.

Investors – and their  trade-group allies – have pitched single-family homes as a salve for this crisis, bringing more supply online and stabilizing the rental market. But it would be extremely difficult in this environment to put homes out for rent and then see the vacancy rates explode upward. Nevertheless, that’s exactly what’s happening to the properties in Invitation Homes’ rental securitizations. And there are only a couple of possible reasons here, all of them pointing to poor property management. We have plenty of  anecdotal information about substandard remodeling, shoddy maintenance and difficulty in contacting managers. The higher relative vacancy rates put some data-driven meat on those bones.

Word is getting around in these communities about the pitfalls of renting from Invitation Homes, leading renters to seek other options. To take one example, in May, a couple in Los Angeles sued Invitation Homes over the slumlike condition of their rental property, which featured mold and rotted plumbing. The couple got sick from the mold, moved out and then could not retrieve their contaminated belongings for months. The company still contacts the couple, demanding back rent for the months when they didn’t occupy the home.

Rep. Mark Takano, who has been one of the few members of Congress to  question the Wall Street rental scheme from the start, told Salon that the report of rising vacancy rates “highlights one of the concerns I had with these types of bonds in the first place.” He added, “Just how accurately can these private equity firms predict vacancy rates, and what happens to the bondholders and local communities if rates rise faster than expected?”