Here We Go Again: Step Aside RMBS, Rent-Backed Securities Are Here, And With Them The Beginning Of The End
Earlier today, when we reported that median asking rents in the US had just hit an all time high, we had a thought: how long until the hedge funds that also double down as landlords decide to bypass the simple collection the rental cash flows, and instead collateralize the actual underlying “securities”? One look at the chart below – which compares the median asking “for sale” price in black and the median rent in red – shows why.
The last time there was a great divergence (to the benefit of housing), Wall Street spawned an entire Residential Mortgage-Backed Securities industry where Paulson, Goldman willing sellers would package mortgages, often-times synthetically, slice them up in tranches of assorted riskiness, and sell them to willing idiots yield-starved buyers. As everyone knows, that particular securitization bubble ended with the bankruptcy of Lehman, the bailout of AIG and the near collapse of the financial system. As it turns out, the answer to our original question was “a few hours” because securitizations are back, baby, and this time they are scarier and riskier than ever.
It appears that since America’s financially innovative elite doesn’t have the patience to wait until housing prices regain their previous all time highs in order to usher in the second great RMBS wave, they looked long and hard at the chart above, and especially the red rental line, and came up with a brilliant idea: “Hey, let’s just securitize rents.”
Sadly, we are not kidding. The WSJ reports:
Two major Wall Street firms are in detailed discussions to create and sell the world’s first bond backed by home-rental payments, people familiar with the matter say.
Blackstone Group LP is in negotiations to bundle monthly rental payments on around 1,500 to 1,700 of its homes. The private-equity giant is among the firms that have spent billions buying homes out of foreclosure, an investment strategy that has helped to bolster demand and strengthen the U.S. housing market.
The bond comprised of the Blackstone homes would be structured and marketed to investors by Deutsche Bank AG, the people say.
Step aside (R/C)MBS, and meet your New Normal mutant offspring: the Rent-Backed Security.
The creation of a new type of security shows that Wall Street’s financial engineering, blamed for deepening the financial crisis, is revving back up.
Some investors and analysts have said they are wary of a bond backed by rental payments, citing the dearth of long-term data on how often tenants living in previously foreclosed homes pay their rent on time.
Also, some investors and analysts have raised concerns about how quickly firms have purchased thousands of homes, and whether they have the management track record and expertise to oversee the maintenance of properties scattered across the country.
Why worry? Remember it was only 2007 when everyone said, especially the Fed Chairman Bernanke, that housing prices are unlikely to ever go down. Actually, forget we just said that.What is important is that it is now 2013, and rental payment are unlikely to ever go down!
But even if they did, in a world in which the Fed has created the largest credit bubble of all times, and everyone is starved for yield and will do and invest in anything just to get a few incremental basis points in order to preserve their jobs, can anyone really blame Wall Street? And after all, it is not like they are investing their own personal money: such is the magic of “other people’s money” – be it direct or indirect investments, pension funds or outright deposits.
But investors are still hungry for the high returns that are likely to accompany a first-of-its-kind deal, which will be viewed as more risky than well-known securities.
One other thing is certain: once BX and DB price the deal successfully, everyone and their grandmother who has REO-to-Rent exposure will line up to sell the rental “collateral”, even if it technically does not exist: not just because synthetic rent-backed securities are likely just around the corner too, but because unlike a mortgage where the opportunity cost of walking away is at least one’s credit rating going to zero for 3-5 years and with it the ability to max out those credit cards, walking away from a rental contract has far less dire implications if any. As for the upcoming deal itself, here are the details:
The size of the Blackstone-Deutsche Bank deal is expected to be around $240 million to $275 million, the people familiar with the bond say. The top-rated slice could receive a rating as high as single-A or triple-B from some of the credit-rating firms, some of the people familiar with the deal add. The deal is expected to be backed by equity and properties that are worth between $300 million to $350 million, the people familiar with the matter said.
The deal could be available to investors as soon as August or September. But the metrics could change as the details aren’t completed, cautioned some of those people.
So why rents? Simple: investment houses have too much exposure in this “asset class” – as in waaaaaay too much exposure, so they need to offload it.
Blackstone has emerged as the biggest investor in single-family rental homes, spending more than $5.5 billion since the beginning of last year to acquire about 32,000 homes in around a dozen major U.S. markets.
Other companies, such as American Homes 4 Rent, Colony Capital LLC and Waypoint Real Estate Group LLC also have been snapping up thousands of foreclosed homes, revamping them and renting them out. American Homes 4 Rent, with 19,000 homes owned or controlled, is expected to price shares of its stock Wednesday in a bid to raise $750 million in an initial offering on the New York Stock Exchange.
The companies have transformed what has traditionally been a space for “mom and pop” investors to earn cash into an institutional investment strategy that has helped to boost home prices in cities across the U.S. The investment strategy is often known as buy-to-rent.
As for the process of monetizing rents, it is a simple and well-known one: securitization.
Securitization is the process of pooling together assets—whether that is rental or mortgage payments—to back a deal. That deal is then “sliced” into different layers, or bonds, according to the risk of the underlying assets and the order in which bondholders will be paid as the payments from the underlying assets roll in.
Each layer is sold as a “class” of bonds to investors. The top layer is paid first, then the second and so on. The riskiest slices offer the highest potential returns.
While securitization got a bad rap because of the losses investors suffered after purchasing such deals before the financial crisis, proponents say it can be an effective process to tap the capital markets for financing by turning thousands of separate cash-generating assets into bonds.
Analysts have said in recent months that Blackstone and Deutsche Bank were a likely pairing on an initial rental securitization. Blackstone’s real-estate prowess could quell some investors’ fears about management of the properties, while Deutsche Bank has led the charge among Wall Street banks offering loans to real-estate firms buying foreclosed homes.
Deutsche Bank has led the issuance of around $3.6 billion of loans to Blackstone in recent months, coordinating with other major Wall Street banks. Debt financing allows borrowers such as Blackstone to buy more properties at lower costs. The sale of a Blackstone-backed securitization would bring still more money to the company.
There is more, but the gist is clear enough that we hardly need to point it out.
Or maybe we do: securitization marked the peak of the last housing bubble. If the Blackstone deal indeed comes to market and prices, and is followed by many more, the end of the second credit and housing bubble is now, mercifully, in plain sight, which for those sick and tired of centrally-planned and manipulated markets is actually good news: the faster this artificial house of cards crashes and burns, the better, so if Blackstone wants to dump its housing exposure to the biggest idiot, more power to it.
And expounding on what we just said in the last sentence: Blackstone – America’s largest landlord – is now actively selling its housing exposure, whether with the assistance of Goldman’s Fab Tourre, Paulson’s Paolo Pellegrini, or… Deutsche Bank’s own Greg Lippmann.
Furthermore, if it is selling, it means there will be active buyers on the other side who will soon be the shorts of the year, just like AIG and it idiot peers were in 2006 and 2007. Which is good news for all those shorters who have been dormant for the past 3-4 years when Bernanke onboarded all the credit risk personally. After all, it was not for naught that the TBAC said it desperately needs the return of securitization for Bernanke to be able to slowly step away from monetizing everything. This deal will be precisely the canary in the coalmine to decide if Bernanke can, indeed, finally step aside.
Finally, for those who have been on the fence about whether or not to sell their house, this is your warning sign. When the biggest housing bull starts selling, run for the proverbial hills.