An Investment Opportunity in Affordable Housing

We often speak of inflation as a single number. For example, in March the Consumer Price Index for All Urban Consumers (CPI-U), or “headline CPI” as it is commonly known, rose 0.4%. Over the previous twelve months, it grew by 3.5%.

However, not all goods inflate at the same rate. In March, the average price of used cars and trucks fell 1.1% while shelter (housing) was up 0.4%. On a trailing 12-month basis those numbers were -2.2% and +5.7%, respectively.

The high cost of housing is not only a financial issue. It has become a political flashpoint that could influence the outcome of this year’s general election.

The problem is twofold. High interest rates make mortgage payments less affordable. At the same time, rapidly rising home prices make the down payments for those homes higher, too.

That challenge is particularly acute for younger consumers with limited financial resources. For example, a 10% down payment on a $400,000 house is $40,000. The monthly mortgage payment (principal and interest) on a $360,000 loan is around $3,100.

Most young people have not worked long enough to accumulate $40,000 in savings. Even if they can scrape that much money together, they may not have sufficient income to cover the mortgage payment plus related home ownership costs (insurance, property tax, maintenance, etc.).

That has forced many young people to rent an apartment instead of owning a home. That may be fine for one or two people, but trying to cram a family into a small apartment can be tedious.

Build-to-Rent

The private sector is aware of this problem and ready to step in. Some homebuilders are expanding their build-to-rent portfolios to accommodate apartment dwellers in need of a home.

According to RentCafe, “In 2023, nearly 27,500 build-to-rent houses were completed, an all-time high. What’s more, this was 75% more than the year before and triple the number in 2021.”

Until the onset of the coronavirus pandemic in 2020, there was not much demand for build-to-rent homes. In the four years leading up to the pandemic, less than 7,000 new build-to-rent houses entered the market each year.

That number quadrupled last year and is growing. More than 45,000 new build-to-rent homes are currently under construction and the year is not yet halfway over.

It isn’t only large cities that have a big need for affordable homes. Last year, the top 20 build-to-rent metro areas included Austin, TX, Nashville, TN, Greenville SC, Akron, OH, and Riverside, CA.

I experienced this phenomenon firsthand. Last year, my wife and I moved to Leland, North Carolina. Since our new home was under construction, we rented a new build-to-rent house nearby.

In fact, the entire community consisted of build-to-rent homes. In every respect, it looked no different than a traditional planned housing community.

We paid $2,200 monthly rent for a three-bedroom, two-bathroom house with a two-car garage and a large backyard. The kitchen appliances were included but we had to provide our own washer and dryer.

Even though we did not own this house, it felt like a home. If we could not afford a new house, I could have happily remained there for a long time.

D.R. Horton

I believe the affordable housing crisis in this country will not abate anytime soon. If I’m right about that, I know of one homebuilder that should perform quite well.

The build-to-rent house we occupied was by D.R. Horton (NYSE: DHI). The company is named after its founder who started the business 45 years ago. In 2002, Horton became the largest homebuilder by volume in the United States.

Over the past five years, DHI has more than tripled in value. It reached an all-time high share price above $165 at the end of March before pulling back in April along with the overall stock market.

Horton specializes in building affordable homes. Last year, 70% of the new homes sold by Horton were priced below $400,000.

If you think a homebuilder can’t make money operating at the lower end of the market, consider these numbers: During the fourth quarter of last year, Horton’s consolidated revenue grew 6% on a year-over-year basis, while the value of homes sold during the quarter increased 8%.

Since then, the decreasing likelihood of more rate hikes has pushed mortgage rates to where they were last spring. Over the same span, the national unemployment rate has remained below 4% while wages have risen by more than that amount.

That means consumers have the financial means to buy homes and can borrow money at cheaper rates than they could throughout most of last year to get them.

And if they cannot yet afford to buy a new home, Horton can set them up in a build-to-rent house until they are ready.