Us mortgage industry on the path of recovery by Sutherland Global Services

US Mortgage Industry – On the Path of Recovery January 2014

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US Housing Market Overview

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2012 was a good year. Despite signs of recovery and an improved housing market, Mortgage Revenues may not grow to the 2012 levels Mortgage Revenues • In 2012, mortgage lenders witnessed a significant increase in their mortgage banking revenues. For large banks, core mortgage banking revenues increased by more than 75%. However, we believe there is a downside risk to origination revenues in 2013. Q1’13 numbers echo similar sentiments; mortgage banking revenues (Q-o-Q) declined for most lenders

Mortgage Revenues (USD Mn) Wells Fargo & Co. JPMorgan Chase Bank of America U.S. Bancorp SunTrust Banks, Inc.

2012

Y-o-Y %

13,578 8,951 8,689 2,137 1,316

48.9% 120.4% 28.5% 93.7% 73.4%

Q3'13 2,907 2,020 2,334 328 139

Q-o-Q % -15.7% -45% -3.4% -17.2% 157%

Macroeconomic & Housing • Economic growth has picked up in 2013. It has been mainly driven by consumer spending, which grew by 2.1% in April ’13. Sutherland Research believes the growth momentum will continue, however Budget sequestration will remain the key hurdle • Unemployment rate has been showing a slow but consistent positive downward trend. However, Sutherland Research refrains from an overoptimistic conclusion as the low participation rate is also believed to be contributing to the decline in the unemployment rate • Housing sector has improved compared to 2012. In June ’13, housing starts reached the four-year high level but dipped back to the earlier level. Growth in housing prices touched the double digit for the first time since 2006; in Nov ’13 S&P Case-Shiller Index peaked at 13.71%. We have a positive view on the sector but rising housing prices and increase in mortgage rates could slow the recovery

Mortgage Industry • Mortgage originations with the refinancing option declined by a massive 42% (Q-o-Q) in Q3’13. Recent MBA application numbers (17 Jan’14) are showing a increasing trend in last one month • Foreclosure starts rate has declined further in Q3’13 to 0.61%. We deem delinquency & foreclosure trends indicate an increase in foreclosure starts in the coming quarters of 2014

Key Trends • Performance of the mortgage portfolio is improving

• Servicers will continue to expand their portfolios with MSR acquisitions in 2014 • Increased retail origination has led to lower consolidation

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Majority of the indicators show improvement against 2012

Housing Market Credit Conditions Asset Performance

Latest

Trend (vs. Last Period last period)

Year

Before

Trend (vs. Last 3-yr year before) Avg.

Highest in 3 Lowest in 3 yr yr

(period)

Period

10-year Treasury Yield (%)

Dec - 13

3.04

2.75

1.75

2.48

3.82

1.47

Consumer Price Index (Y-o-Y, %)

Dec-13

1.5

1.2

1.7

2.2

3.9

Unemployment Rate (%)

Dec-13

7.1

7.2

7.5

8.13

9.1

7.1

Consumer Spending (Y-o-Y, %)

Nov-13

2.6

2.4

2.1

2.25

3.2

1.7

Bankruptcies (Quarterly, in ‘000)

Dec-13

267.9

293.1

273.9

319.3

422.1

267.9

Existing Housing Sales (Mn)

Dec-13

4.87

4.82

4.59

4.67

5.39

4.13

Housing Starts (‘000)

Dec-13

873

883

854

735.9

1005

539

S&P Case-Shiller Index (Y-o-Y, %)

Nov-13

13.71

13.61

5.52

2.56

13.71

-4.49

Existing Home Inventories (Mn)

Dec-13

1.86

2.05

2.47

2.42

3.15

1.77

Housing Affordability Index

Nov-13

170.3

166.6

203

187.9

210

213.6

Mortgage Originations (Quarterly, USD Bn)

Sep-13

401

536.95

550.09

451.8

596.8

245.8

30-yr Mortgage Rate (%)

Dec-13

4.48

4.32

3.35

4.04

4.48

3.4

Household Debt (Quarterly, USD Tn)

Sep-13

11.28

11.15

11.31

11.6

11.729

11.28

Consumer Credit (USD Tn)

Sep-13

3.38

3.31

3.282

3.27

3.38

3.21

MBA Mortgage Applications

Dec-13

374.6

392.6

650.3

660.47

1,020.40

445.1

Delinquency Rates (Quarterly, %)

Sep-13

6.41

6.96

7.4

7.5

8.44

6.41

Foreclosure Rates (Quarterly, %)

Sep-13

0.61

0.64

0.9

1.29

0.61

Mar - 13

9.7

10.4

11.4

11.34

12.2

9.7

Total Modifications (Quarterly, ‘000)

Sep-13

181.2

204.4

189

300

499.1

181.5

HAMP Modifications (Quarterly, ‘000)

Sep-13

44.8

45.1

60.2

85.5

167.2

42.1

Underwater Borrowers (Quarterly, USD Mn)

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Up and Down arrows indicate movement, whereas color indicates positive / negative effect

Macroeconomics

Metric /Indicator

Although indicators favor housing market growth, a closer look at the industry fundamentals reveals signs of concern

Shadow Inventory: Slow Foreclosure Rate

Supply Constrained: Investors Throng the Housing Market

Rental Costs Increasing

•

Lender Processing Services (LPS) reported that a total of 4.7 Mn or 9.76% home loans are delinquent or in foreclosure as of Apr’13. However, an average seriously delinquent homeowner has not paid on his mortgage for 503 days, & foreclosure home has been delinquent for 843 days. Thus, highlighting banks are not completing foreclosures, i.e. for those seriously delinquent (more than 90 days past due) are not being foreclosed on, and properties in the foreclosure process are not having their homes seized

•

An artificial shortage has been created, aiding in increased home price buildup, which is not intrinsic to market dynamics (demand-supply scenario)

Impact on Housing Market

Inflated home prices

•

Private equity investors, hedge funds and individuals are buying foreclosed or distressed homes in cash or bulk deals as they are able to source the housing properties at a lower price as compared to the 2006 peak

•

The firms largely target middle-income and low-income housing properties

•

Some of the key local players actively involved in purchasing distressed sales are Blackstone Group, Colony American Homes, Inc., Leon’s Black, Silver Bay Realty Trust Corp., Five Ten Capital LLC., etc.

•

US housing market is also flocked by foreign buyers such as Tricon Capital Group (Canada), Delavaco Properties, Inc. (Canada), US Masters Residential Property Fund (Australia), etc.

Artificial

•

The companies mainly target rental for the housing asset purchased and later on capitalizing on higher home prices

shortage

•

Improvement in economic conditions and increasing rental costs have made home purchases a lucrative option for retail buyers

•

However, down payments and other upfront costs, combined with higher prices, tighter credit condition, and stricter loan scrutiny put home purchases out of reach of many lower-income families as well as of buyers with negative equity (underwater borrowers)

•

Hence, rentals are increasingly witnessing an upward trend in the US housing market (median asking rent in the US increased from USD483 (2000) to USD615 (2004) to USD717 (2012))

supply

Potential home purchase demand replaced by rentals

Sources: US Census, NAHB, Bloomberg, Reuters, Factiva

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Mortgage Trends

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Current and performing mortgages stand at 91.4% •

Performance of the Mortgage Portfolio Is Improving

• As per the Mortgage Metrics Report, released by the US Office of the Comptroller of the Currency (OCC), the overall performance of mortgages in 2013 improved from 2012. The report highlights performance data on first-lien residential mortgages serviced by national banks and federally regulated thrifts covering approximately 50% of all mortgages outstanding in the US (about 25.6 Mn loans totalling USD4.4 Tn in principal balances)

• The percentage of mortgages that were current and performing at the end of 3Q2013 were 91.4%, compared with 88.6% in the same period in 2012. Similarly, percentage of mortgages that were 30 to 59 days past due declined 15.5% and percentage of mortgag es in the foreclosure process declined 39.3% in the same period • A total of 1,361,795 foreclosure filings including default notices, scheduled auctions and bank repossessions were reported on the US properties in 2013, down 26% from 2012 and down 53% from the peak of 2.9 Mn properties with foreclosure filings in 2010

5% 4% 3% 2% 1%

0% 30-59 Days Delinquent

60-89 Days Delinquent 09/30/12

12/31/12

90 or More Days Delinquent 03/31/13

Bankruptcy 30 or More Days Delinquent

06/30/13

Foreclosures in Process

09/30/13

Source: OCC Mortgage Metrics Report.

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Servicers will continue to expand their portfolios with MSR acquisitions in 2014 Rise in Acquisitions of Mortgage Servicing Rights • The year 2013 was marked by continued mortgage servicing rights (MSR) acquisitions. The sluggish comeback of the mortgage market and new loan production have led many servicers to grow their servicing portfolios through the acquisition of both third-party servicing and, more extensively by the purchase of MSRs. The fact that the large banks are actively looking to minimize their MSR exposure and move delinquent loans from their portfolios has also aided the trend • Some of 2013’s largest MSR acquisitions were: – Ocwen Financial Corporation (Ocwen) acquired MSRs worth USD90 Bn from Ally Bank and approximately USD72 Bn from OneWest Bank. These transactions included both agency and non-agency loans – Nationstar Mortgage LLC acquired MSRs worth USD215 Bn from Bank of America Corporation, of which approximately 47% comprised agency loans and 53% loans in private label securitizations – Walter Investment Management Corporation acquired MSRs worth USD93 Bn of agency loans from Bank of America Corporation – Quicken Loans, Inc. acquired MSRs worth approximately USD43 Bn of agency loans from Ally Bank • Experts expect that servicers, particularly those with special servicing operations, will continue to expand their portfolios with MSR acquisitions in 2014 as the large banks will continue to cut delinquent loans off their portfolios, although the actual dollar volumes of these MSR acquisitions should be smaller

Demand for Mortgage Refinance is Declining • Refinancing activity continued to decline through Q3’13. The ratio of mortgage refinance as a percentage of total applications has decreased in 2013

100%

• A number of lenders with major focus on mortgage refinancing such as US Bank, Provident Funding, and Flagstar are struggling (although the large banks such as Chase and Wells seem to be unaffected). This may result in an increase in the number of riskier mortgages since lenders will have to become more competitive on rates in growth sectors such as ARMs to regain market share

60%

80%

79.1%

81.9% 71.2%

78.0%

83.3%

81.9%

73.6%

64.3%

62.9%

40% 20% 0% Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13 Source: Mortgage Bankers Association

Source: SIFMA

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New issuance and trading of MBS has reduced recently New Issuance and Trading of Mortgage Backed Securities(MBS) is the Lowest in Recent Years • The sharp decline in refinancing activity has reduced the need to issue new agency mortgage bonds. New issuance is the lowest in years • Similarly, trading volumes in MBS have dropped to new lows

Monthly Issuance of Mortgage Bonds (Bn)

Mar-13

Apr-13

May-13

Jun-13

Jul-13

Aug-13

Sep-13

Oct-13

Mar-13

Apr-13

May-13

Jun-13

Jul-13

Aug-13

Sep-13

Oct-13

Feb-13

Jan-13

Dec-12

Nov-12

Oct-12

Sep-12

Aug-12

Jul-12

Jun-12

May-12

Apr-12

Mar-12

Feb-12

Jan-12

240 220 200 180 160 140 120 100

Trading Volume in Agency MBS (Bn)

Feb-13

Jan-13

Dec-12

Nov-12

Oct-12

Sep-12

Aug-12

Jul-12

Jun-12

May-12

Apr-12

Mar-12

Feb-12

Jan-12

330 310 290 270 250 230 210 190 170 150

Source: SIFMA

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Increased retail origination has led to lower consolidation •

Deconsolidation in the Primary Mortgage Market

• Between 1998 and 2010, market share of the top 10 originators doubled from just below 40% to nearly 80%. However, since then their share has fallen to slightly more than 60% in the first half of 2013 • Market deconsolidation was driven largely by the withdrawal of large lenders, with only 5 of the top 20 single-family mortgage originators in 2006 remaining active in the market by the end of 2013

Share of Originations by Channel 65% 60%

55%

Retail

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

2001

2000

1999

1998

1997

1996

1995

1994

50%

• Shift to retail origination is one of the major factors favoring less 45% consolidation. According to Fannie Mae, the trend of deconsolidation 40% among mortgage lenders is temporary and is principally a result of cyclical factors that caused larger lenders to pull back from the market. 35% The trend is likely to reverse due to several advantages of being a large lender

Wholesale

Source: Inside Mortgage Finance

Finance companies are expanding their market share in commercial real estate lending • Since the end of the financial crisis, banks are taking a calculated approach to CRE lending by significantly reducing construction loans and working through their non-performing CRE assets. Regulatory focus on CRE risk and lower loan demand are some of the reasons for banks’ lower exposure to CRE. Banks also offloaded their loans and foreclosed real estate citing rebound in CRE prices in some markets • As a result of drop in competition from banks, several newly-formed finance companies are expanding their market share and generating strong profits

Source: Fannie Mae; Inside Mortgage Finance

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Housing Market

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Key Trends: Housing Market Impact on housing •

Both Existing and New Home Sales Decline

• • •

•

Housing Prices Are Registering Double-Digit Growth Mortgage Applications for Purchase and Refinance Decreases Investors Are Making Distressed Purchases South and West Regions to Recover Fast

•

Existing home sales declined for three consecutive months till Nov’13, and was down on a Y-o-Y basis for the first time since June 2011. However, Dec’13 saw a minimal increase in existing home sales New home sales saw some similar moderation with a three-month continuous decline till Dec’12, following the spike in October. Levels declined 7% M-o-M, but they remain 4.5% higher Y-o-Y Existing homes inventory represents a 4.6-month supply in Dec’13, compared to 4.5-month a year before. Total inventory has dropped by 16.7% in the last five months of 2013, thus showing negative impact of price rise on bank repossessions and consumers’ equity Housing sales decline has impacted the building permits and starts

Home prices are sharply moving upward as the S&P Shiller Index registered a double-digit growth in housing prices since April’13 compared to negative momentum in the same time the previous year. FHFA index also showed similar momentum S&P Case-Shiller Housing Price Index showed increment of 13.71% Y-o-Y in Nov’13, the highest gain in housing price in the last five years. Moreover, in Mar’13, S&P Case-Shiller Housing Price Index showed the double digit growth for the first time since 2006

•

Purchase applications declined through December, reaching a low last seen a year ago

•

Refinance applications, which have taken a larger toll under rising rates, saw a steady decline throughout November and December 2013. The most recent January 2014 print provided some, albeit small, amount of relief

•

Interest of institutional investors such as Blackstone Group increased in the housing market, since 2011, due to historical low prices. Ratio of investor purchase to total purchase peaked at 27% in 2011

•

However, upward correction in prices has made the housing market unattractive for investors. According to a study, properties that were initially at a discount of about 48% in 2010, are now at a discount of 35% in 2012. Resultantly, investors are either pulling out from further purchases or have reduced purchases

•

Sutherland Research’s study on the last four recession cycles and growth in housing permits suggests that 12 states will display a better recovery rate. Key states include Texas, North Carolina, South Carolina, New York, Washington, Tennessee, Alabama, Louisiana, Utah, Oklahoma, Indiana and Oregon

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Housing sales have improved marginally and, conversely, so have housing starts New Home Sales (in ‘000) 500 400

Housing Starts (in ‘000) 14.0

1,200

12.0

1,000

10.0 300

8.0

200

6.0

4.0 100

2.0

0 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 New home sales

0.0

800 600

400 200 0 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13

Housing supply (RHS)

Midwest

NorthEast

South

West

Observations • Though the housing industry continued a steady recovery till Oct’13 and passed the 1 Mn mark, it declined 3% M-o-M to below 1 Mn in Dec’13 • New home sales increased to 450K in June’13, but decreased to 414K in Dec’13. Decreased home sales are persistently pushing up the housing supply, by releasing excess inventory. Housing supply of new homes is now of 5 months, which increased 11% Y-o-Y • Housing starts, after the dip of Sep’13 (873K), rose to 1,107K in Nov and then again declined to 999K • Regional data reflects that the gain in Nov starts was led by the South and Midwest region (+38.4% & +36.4%, M-o-M). The Nov’13 regain reflects that there is no structural downward trend in housing starts and the decline in Sep’13 can be considered as a single blip. NorthEast region was the lone region that declined in Nov’13 (-24.4%, M-o-M). Sources: Sutherland Research, Bloomberg

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Housing inventory has decreased over the last six months Existing Home Sales (in Mn)

Existing Home Inventories (in Mn)

3 2

10 8 6 4

0 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Single-Home Condos Housing supply (RHS)

4.0 3.0 2.0 1.0 0.0 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Single-Home

Condos

Observations • Existing home sales decreased by 0.6% Y-o-Y in Dec’13 to 4.87 Mn. It recorded a 3-year high of 5.14 Mn in May’13. Single home sales tracked total existing home sales data, whereas sales of condos remained stagnant on annual basis • Increasing housing sales and lower house owner’s confidence have resulted in reducing existing housing inventory. However, there was buildup in existing home inventory since Feb’13 till Jul’13. This suggests that rising home prices are encouraging more buyers to test the market. However despite increment, current level of inventory is much lower than the 3-yr average. In Dec’13, it decreased to 1.86 Mn, a M-o-M decline of 9.2% • NAHB housing market survey index moved to 44 in May’13 from 28 a year before. Increment in index echoes builders’ positive sentiment about the housing market. Same could also be corroborated with the increase in building permits Sources: Sutherland Research, Bloomberg

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Housing price increment is in the double digit, affecting housing affordability House Price Movement (%)

Housing Affordability Index 220

20 10

200

0 180

-10 -20

160

-30 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 S&P case shiller Housing Prices (y-o-y %) Linear (S&P case shiller Housing Prices (y-o-y %))

140 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Housing affordability index (Composite)

Observations • Measures taken by the Fed and record-low mortgage rates have aided the markets. Sharp rise in housing prices is a clear indicator of this sentiment. However some of the demand is coming through investors, as the home ownership rate has declined to 65% in Q1’13 from 65.4% in the previous quarter • S&P Case-Shiller Housing Price Index showed increment of 13.71% Y-o-Y in Nov’13, the highest gain in housing price in the last five years. Moreover, in Mar’13, the index showed the first-time double-digit growth since 2006 • Housing Affordability Index reached its peak of 213.6 in Jan’13, but has come down since then to 158 in Aug’13. Increase in home prices has led to this decline. Region wise, compared to a year ago, the index is down in all regions except the NorthEast. However, later in 2013, the Housing Affordability Index again started to increase and reached 170.3 in Nov’13, after the price somewhat stabilized Sources: Sutherland Research, Bloomberg

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-2.00

0.00

-0.50

-1.00

-1.50 Jan-01

Oct-11

Jul-11

Apr-11

Jan-11

Oct-10

Jul-10

Apr-10

Jan-10

Oct-09

Jul-09

Apr-09

Jan-09

Oct-08

Jul-08

Apr-08

Jan-08

Oct-07

Jul-07

Apr-07

Jan-07

Oct-06

Jul-06

Apr-06

Jan-06

Oct-05

Jul-05

Apr-05

Jan-05

Oct-04

Jul-04

Apr-04

Jan-04

Oct-03

Jul-03

Apr-03

Jan-03

Oct-02

Jul-02

Apr-02

Jan-02

Oct-01

Jul-01

Apr-01

Jan-13 Apr-13

Jul-13 Oct-13

May-12 Oct-12 Mar-13 Aug-13

Jul-12 Oct-12

Jul-11 Dec-11

Jan-12

1.00 Apr-12

1.50

Feb-11

FHFA* Housing Price Index (Monthly, %)

Sep-10

Apr-10

Nov-09

Jun-09

Jan-09

Aug-08

Mar-08

Oct-07

May-07

Dec-06

Jul-06

Feb-06

Sep-05

Apr-05

Nov-04

Jun-04

Jan-04

Aug-03

Mar-03

Oct-02

May-02

Dec-01

Jul-01

Feb-01

Sep-00

Apr-00

Nov-99

Jun-99

Jan-99

Aug-98

Mar-98

Oct-97

May-97

Dec-96

Jul-96

Feb-96

Sep-95

Apr-95

Nov-94

Jun-94

Jan-94

Aug-93

Mar-93

Oct-92

May-92

Dec-91

Jul-91

Feb-91

S&P Shiller Index showed increment of 13.71% Y-o-Y in Nov’13, a consistent gain in double digit since March’13

S&P-Shiller Housing Price Index (Y-o-Y, %)

20.00

15.00

10.00

5.00

0.00

-10.00 -5.00

-15.00

-20.00

-25.00

Sources: US Census, NAHB, Bloomberg, Sutherland Research

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Credit condition has improved; recent spike in rates will put pressure on originations Mortgage Origination Estimates (in USD Bn) 1400

1200

1000 800

600

400

200

Purchase

Refinance

Sep-13

Mar-13

Sep-12

Mar-12

Sep-11

Mar-11

Sep-10

Mar-10

Sep-09

Mar-09

Sep-08

Mar-08

Sep-07

Mar-07

Sep-06

Mar-06

Sep-05

Mar-05

Sep-04

Mar-04

Sep-03

Mar-03

Sep-02

Mar-02

Sep-01

Mar-01

30 Yr FRM (RHS)

Observations • Study comparing purchase and refinance origination volume to the 30-yr FRM rate reveals that refinancing picks up with a sharp decline in the mortgage rate; conversely, percentage share of purchases increases in the high interest rate environment. However, new purchase percentage in total origination volume remains at 48.8% in Q3’13 • Total mortgage originations declined 27.1% Y-o-Y in Q3’13 to USD401 Bn. Moreover, the industry hosted the largest decline (25.3%) in mortgage origination on M-o-M basis since Q1’11, which hosted a decline of 48.8% M-o-M • Good employment data and expected tapering in the quantitative easing program have pushed the interest rate higher. The 30-yr FRM rate has gone up to 4.48% in Q4’13, highest in the last 10 quarters • MBA forecasts that mortgage origination volume would decline by as much as 32% in 2014 – most of it in the form of declining refinancing volume Source: Sutherland Research, Bloomberg, Federal Reserve Bank of New York: Quarterly Report on Household Debt and Credit

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Delinquency rates have decreased slightly in Q3’13, along with the foreclosure rates Delinquency & Foreclosures 11 10 10 9 9 8 8 7 7 6 Mar-09

Underwater Properties (Mn) 1.6

13.0

1.4

12.0 11.0

1.2 1

0.8

12.0

12.2 11.8

11.6

11.8 11.8

10.0

12.1

11.6

11.4 10.6

10.4 10.5

9.7

9.0 8.0 7.0

0.6 Nov-09

Jul-10

Mar-11

Delinquency Rate (%)

Nov-11

Jul-12

Mar-13

7.2

6.0 6.4 Mar-10 Sep-10 Mar-11 Sep-11 Mar-12 Sep-12 Mar-13 Sep-13

Foreclosure Starts (%) (RHS)

Observations • Delinquency and Foreclosure trends indicate that the Jul-Sep 13 quarter had less foreclosure starts and less delinquency as compared to the previous couple of quarters — From 2012 onwards, the delinquency rate started decreasing as job gains help borrowers keep up on the payments while rising home prices enable others to sell • Underwater properties have declined consistently in 2013. It declined from 9.7 Mn in Q1’13 to 6.4 Mn in Q3’13, reflecting a drop of 3.3Mn in properties over the period of six months

Source: Sutherland Research and Bloomberg

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Investorsâ&#x20AC;&#x2122; Role in the Housing Market

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Investors’ presence and share in the US housing market has increased, with housing units available at discounted prices Share of Homes Bought by Investors in Total Home Sales

Investment Home Prices and Discount on Market Price (USD) 250

0.3 0.3

27%

0.2

150

21%

17%

0.1

48%

2009

2010

2011

182

170

48%

41% 100

177 35%

115

0 2008

2008

105

108

0.0 2007

43%

100

Share of investors begins to slow down as increase in prices leads to decline in margins

0.1

184

24%

21%

0.2

210

200

2012

2009

2010

2011

2012

Median Investment-Home Price ($'000) Sales Price of Existing Single-Family Homes ($ '000)

Key Observations • With the housing market meltdown, institutional investors such as private equity investors and hedge funds had aggressively bought foreclosed or distressed homes as they were able to source them at a lower price as compared to peak prices of 2006. Additionally, a large number of foreign buyers too invested and accounted for USD82 Bn in home purchases in 2011, according to the National Association of Realtors (NAR) • The investors largely targeted middle-income and low-income housing properties with the purpose of refurbishing them and either selling them for a profit or turning them into rentals • Some of the key markets targeted by the investors include Phoenix, California, Atlanta, Las Vegas, Florida, etc. (areas which witnessed sharp decline in the housing market) • Housing prices have been on the upswing since the start of 2013, which has impacted the margins of institutional players (properties that were initially at a discount of about 48% in 2010, are now at a discount of 35% in 2012). Hence, investors are also beginning to pull out from the housing market

• Earlier investors mainly constituted mom-and-pop outfits, including retirees, real-estate brokers, doctors and other professionals, but with easy fund access institutional players are increasing their stake in the market. This creates a cautious situation, for as and when the housing market improves the institutional players can easily sell-off their holdings in bulk quantities and may create a supply-demand imbalance Sources: NAR, US Census, Sutherland Research

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Major institutional investment deals (1/2) Value (USD Bn)

Homes

Equity Residential

9.3+

127,814

Has investments in 446 properties located in 13 states and the District of Columbia.

AvalonBay Communities

6.0+

52,427

Has a direct or indirect ownership interest in 178 operating apartment communities containing 52,427 homes in nine states and the District of Columbia.

29,000

Invested about USD5 Bn. Bought about 29,000 single-family homes in 13 metropolitan areas (like Las Vegas – 400 homes, Florida, Georgia, California, Nevada and Arizona). It is using a combination of private loan and special credit line arranged by Deutsche Bank to fund its purchases.

1.5

8,010

Greystar Real Estate Partners partnered with Real Estate Principal Investment Area of Goldman, Sachs & Co. to purchase a USD1.5 Bn portfolio of multi-family assets from Equity Residential. The portfolio includes 27 multi-family communities across the United States, incorporating 8,010 units.

8,000

In 2012, Colony bought 1,100 homes in Arizona, California, Nevada, and Texas. Colony was among the winners of the largest bulk sale thus far (a USD 330 Mn portfolio of 2,500 foreclosed properties auctioned off by Fannie Mae). Currently, it has acquired 8,000 homes across the country (mainly seven states). Colony plans to buy some newly-built homes In Las Vegas because of the limited supply of foreclosed homes. Allocated USD2 Bn for investments nationwide.

Investor

Blackstone Group

Greystar Real Estate

Comments

Colony Capital

1.0+

Tricon Capital Group, Inc.

0.2

American Homes 4 Rent

14,000

Has a USD 500Mn credit facility with Wells Fargo to fund its housing purchases. It also has USD600 Mn from the Alaska Permanent Fund for its purchases. It is estimated that the company has about 14,000 homes in its portfolio.

Waypoint Homes

10,000

Waypoint Homes expects to own 10,000 homes by the year’s end; it has already amassed upward of 3,300 properties

Silver Bay Realty

2,500

Has about 5,000 homes in its portfolio in 10 different markets including Phoenix, Atlanta, Tampa, etc. It obtained a USD200 Mn facility from Bank of America Corp. and JPMorgan

2,300

Focus on regions: California, Arizona, Florida and North Carolina; Aims to acquire 4,000 in total by the end of 2013

Sources: NAR, US Census, Sutherland Research

www.sutherlandglobal.com July 4, 2014

Major institutional investment deals (2/2) Investor

Value (USD Bn)

Homes

Delavaco Properties, Inc.

557

Delavaco (a Canada-based private equity investor) has Invested in foreclosed homes in the US since 2010. It has about 557 single-family homes in South Florida, and plans to scale it to 1,500 by the 2013-end.

American Residential Properties, Inc.

300+

Expanded its portfolio to states such as Indiana, Phoenix, Chicago (300 houses), North Carolina and South Carolina. It plans to raise USD300 Mn in a US initial public offering.

Apollo Global Management LLC

Apollo has also partnered with Haven Realty Capital and purchased about 1,500 homes in Las Vegas. The company has also secured a USD200 Mn credit facility from Deutsche Bank for its purchases.

Five Ten Capital LLC

The company received a USD100 Mn loan from Deutsche Bank for its purchases.

Mullen’s Fund

Mullen’s fund is expected to raise about USD500 Mn to buy foreclosed homes in Las Vegas and Florida.

Caisse de Depot

Caisse de Depot (a Canada-based organization) has formed an alliance with the Real Estate Principal Investment Area of Goldman, Sachs & Co., Greystar Real Estate Partners and others to build on its US residential presence.

Exited

300

The company sold its complete portfolio of 300 homes in Northern California due to return on investments and increased competition levels.

Carrington Holding had a portfolio of about 300 properties. The company recently exited from the investment business because of depleting investment returns and increasing competition. Oaktree Capital Management agreed to provide up to USD450 Mn in equity for its foreclosed-home acquisition program, which was later revoked by the company.

Och-Ziff Capital Management Group

Carrington Holding

Exited

Comments

Sources: NAR, US Census, Sutherland Research

www.sutherlandglobal.com July 4, 2014

Rental Demand

www.sutherlandglobal.com July 4, 2014

Home ownership rate continues to decline… US Home Ownership Rate as a Percentage to Total Occupied Houses (%)

Key Observations

Ownership increased during the peak period due to

69.0% subprime loans being distributed to customers

64.1%

Home ownership rate continues to decline steadily, falling to 65% for the first quarter of 2013 (the lowest level since the third quarter of 1995) and is down from a peak of 69.2% in 2004, (when the housing market bubble was at its prime)

•

After the recession, lower interest rates have supported the housing market’s recovery over the past year. However, recently strict lending practices could pose a roadblock to fast recovery of the market

•

Region-wise homeownership rates have shown slight variation. In the first quarter, the homeownership rate stood at 59.4% in the West, 62.5% in the NorthEast, 66.5% in the South and 70% in the Midwest

•

All regions have witnessed a slight decline since Mar’10 homeownership rates

•

Only the Midwest region witnessed a marginal growth in Mar’13 over the last year

67.4%

66.8%

63.9%

•

66.5% 65.0%

64.7%

Average value of 1990-2012 period

Current Home Ownership Rate Trend across Key Regions West

South

Midwest

NorthEast

62.5 66.5 70.0

62.5 67.5 69.5

63.9 68.4 70.4

64.4 69.2 70.9

63.7 69.6 70.7

64.7 69.7 72.0

64.8 70.6 72.2

64.7 70.4 72.5

65.4 71.1 73.1

65.1 70.3 73.5

64.2 69.9 72.9

63.8 69.8 73.2

73.2

63.6 69.3

66.5%

Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Average value of 1990-2012 period

Sources: US Census, NAHB, Bloomberg, Sutherland Research

www.sutherlandglobal.com July 4, 2014

…while demand for rental increased consistently and is at its peak since 1995 US Total Rentals as a Percentage to Total Occupied Households (%)

Key Observations

38.0% 37.0% 36.0%

36.1% 35.9%

Peak period when home ownership was moving towards its peak along with easy credit access while renters were declining

35.3%

35.0%

•

US homeownership rate fell to the lowest (in Mar’13) in almost 18 years, reflecting rising demand for rentals and investor purchases in the housing market

•

Some additional reduction in the rate will occur as pent-up housing demand is unlocked, producing more renters than owners in the short term. However, these forces should not push the home ownership rate much below 64%, a rate comparable to the 1995 levels

•

Investors are buying single-family homes and renting them out to capitalize on demand among families unable to qualify for a mortgage. Their purchases are helping to support the housing recovery

•

Banks are increasing credit lines to buy houses at foreclosure auctions, through open market purchases and in bulk deals, e.g. Deutsche Bank financed Blackstone Group; Leon’s Black and Tricon Capital Group purchased single-family properties

34.0% 33.5%

33.0% 32.0% 31.0%

31.0% 30.0%

Median Asking Rent for the US (USD) 750.0 700.0

650.0 600.0 550.0

500.0 450.0 400.0 1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

Recession Period

Sources: US Census, NAHB, Bloomberg, Sutherland Research

www.sutherlandglobal.com July 4, 2014

Thank You