Housing Ireland Article: Barriers to Institutional Investment in (Social) Housing
Posted by admin on 20 Oct, 2016
Aidan Culhane, WK Nowlan Real Estate Advisors, Housing Ireland, Autumn 2016
For the past number of years, the private sector has been the main source of new social housing supply. While capital budgets were ravaged by the financial crisis, the trend towards use of the private sector to meet social housing need began before this. From RAS to the various leasing schemes and more recently HAP, the State has a clear policy of sourcing housing from private landlords. The Social Housing Strategy and the more recent Housing Action Plan, Rebuilding Ireland both envisage private supply as the principal channel of new accommodation over the next half decade. Whatever your ideological view, there is no realistic way that State capital can be brought to bear at anything like the scale required to provide housing directly, so sourcing accommodation from the private sector cannot be avoided.
However, the private rented sector, as it is currently structured is not ideal for the kind of stable tenancies that are typically required for social housing and for long-term private renters. The vast majority of landlords – 90% –own fewer than three properties. They are therefore generally small investors who are not professionals, and many of whom are reluctant landlords who expected to sell their property before the crash. Startlingly, in 2014, some 71% of landlords reported that the rent did not cover the costs of servicing their debt, and there is strong evidence that buy-to-let landlords are leaving the sector.
Various government reports and policy documents have noted the need for a “build-to-rent” sector, and for a new “institutional” style investor. Institutional investors are typically pension funds, insurance companies, REITs, and other large, professional investors. Institutional investment in housing is most commonly in “Multifamily” developments – purpose-built rental accommodation, usually with a range of facilities and amenities on site. This is a growing sector internationally. In Ireland, there are early signs of a sector developing. A few institutional players like IRES REIT and Kennedy Wilson – have residential holdings. However, most of this was acquired opportunistically at the low prices that were available in the aftermath of the crash. The viability of new residential apartment development remains marginal, especially in non-prime areas of cities, even in Dublin, though there are now signs of activity in higher-rent areas, e.g. the recent acquisition by investors of 197 apartments under construction in Dun Laoghaire.
Social and affordable housing has seen no private investment, but in theory it should be quite an attractive proposition. With the comfort of State backing, and the long-term steady cashflow available, on the face of it, social housing should make a good, sound investment for those looking for a long investment horizon with relative security as to return.
So why is it proving so hard to get investors into the sector? While large housing associations in the UK can access bond finance, attracting institutional investors into social housing has not proved easy. Such private investment as there is in the sector has come via debt rather than equity instruments.
The rest of this article looks at the reasons why more investment has not come into the sector. No particular claim to originality on these is made. Reports in the UK and Australia (see e.g. Montague, BSHF, Alakeson, AHURI) have catalogued the reasons, and academic literature bears these out. It’s not that all these factors deter all investors, but that in some combination, they will make it very hard to secure funding.
Institutional investors prefer to invest at scale, typically €50–€100 million. But projects of this scale are not ideal for social housing where large concentrations are usually avoided. Breaking up the funding into smaller chunks means duplication of due diligence, fees, and transaction costs which makes the overall project less attractive. The housing association sector, especially the larger Tier 3 entities have ambitious development programmes, and have limited capacity to take on large new commitments, especially at the level required. So the opportunities for institutional investment are not there at present. There are very few projects on hand at the scale required to attract investment
Also, investors are very reluctant to take on the many risks associated with the development process, from planning to delays in the construction and delivery process. Instead, they generally prefer to buy completed, or even tenanted and income-producing buildings. There is very little such housing product available at present.
The €300 million social housing PPP programme will be the first real foray into the market with large-scale social housing programmes. However, the PPP methodology is unwieldy, bureaucratic and slow. Despite being announced in 2014, the first “bundle” of sites has still not been procured. This model may attract some private funding, but is not the typical investment for institutions.
Of course, investors in housing expect a return on their money, and for the most part returns on rental housing are insufficient to attract them. IRES REIT which is a specialist residential landlord reports gross yields of 6.5% at average rents of just over €1,364 per month, which is very respectable. However, most Irish residential assets of this kind were acquired at below replacement costs. In other words, developing them will cost a lot more than acquiring finished units. Internationally, the evidence is that residential returns may actually be better than commercial property, but particular features of housing as an investment mean that much of that return comes from capital gain which is not necessarily as attractive to all institutional investors as secure rental income. And generating sufficient income return from low-income housing is by definition much harder.
Perhaps the biggest barrier to investment in residential property is that it is not well known or well understood. While it is growing as a sector internationally, it does not have the detailed time-series data and research that is available for, say, offices or retail. Alongside this, housing as an asset generally requires much more intensive management than other real estate. Consider a large office block let to a single tenant compared to a building the same size broken into hundreds of units with all the attendant costs and issues such as repair and maintenance.
Housing, especially, social housing also suffers from reputational and perceptual problems. Even if the offer to investors is attractive, the fear of some reputational loss due to evictions, antisocial behaviour and the other issues perceived to attach to low-income housing may be enough to deter investors, and even more so if it compounds with the other issues noted here.
Lastly, investors fear political and regulatory change, e.g. rent controls etc. It is uncertainty that is the enemy here. Countries with highly regulated rental sectors are often attractive to investors, as they offer a well-understood and well-governed investment environment. Fear of the unknown is the obstacle not the regulation itself.
The factors above present the barest hint at some of the barriers to investment in housing, and social housing in particular. All are surmountable if the right approach is taken. The virtue of investment in housing is that it can produce a reliable income stream that is linked to incomes in the wider economy, which is very attractive in the current low-interest rate environment. For social housing to be attractive, it needs the additionality brought by the involvement of the State in the arrangement. The virtue of large-scale landlords is that they can bring scale, and they are more likely to prefer long-term stable tenancies. Bringing all of these elements together takes some creativity and new thinking in the private, voluntary and public sectors, but it is achievable, and it is a goal worth pursuing.