December 5, 2022

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Home price appreciation appears to be stalling out, and it even declined overall in July, according to the Federal Housing Finance Agency (FHFA) House Price Index. The drop comes after a combination of rising home prices and rising mortgage rates over the past year combined to really threaten housing affordability. The double-digit home price appreciation (fueled, in part, by lowered interest rates) that we have been seeing since the pandemic began has become unsustainable. Rates are reversing, and home price appreciation is reversing as a result.
How will the inevitable falling home prices affect Invitation Homes (INVH 2.75%)
Image source: Getty Images.
Invitation Homes is a real estate investment trust (REIT) that specializes in single-family rentals. It owns over 80,000 single-family rental properties in 16 markets. Like competitor American Homes 4 Rent (AMH 1.49%), the company looks to consolidate what was historically a highly fragmented industry of mom-and-pop landlords who would each operate a rental property or two. Invitation focuses on locations with diverse economic drivers including high barriers to entry and potential home price appreciation. The company focuses on properties in the Southeast and on the West Coast. Its typical property is a three-bedroom/two-bath house with about 1,870 square feet. 
The big question is what declining real estate prices mean for residential REITs. Theoretically, declining real estate prices mean lower rents, but there is a long lag between rental prices and home prices. According to one study, rental price inflation is typically about 21 months behind home price inflation. This would indicate that any decline for Invitation Homes is at least two years away. This is mainly because rents are reset once a year, so the leases that are expiring right now were set when real estate prices were some 20% lower. Those leases will reset to market rates. 
The other issue concerns how this affects Invitation’s portfolio of homes. The short answer is that it won’t affect anything on the financial statements. Invitation books its homes at cost less depreciation and amortization, and it hasn’t been revalued on the way up. This is one of the attractive parts about these single-family REITs like Invitation and American Homes 4 Rent: their book values understate the true values of their underlying real estate portfolio. 
On the company’s second-quarter earnings conference call, Invitation increased its guidance for full-year 2022 funds from operations (FFO) per share. REITs tend to use FFO instead of earnings per share to describe earnings. This is because depreciation and amortization are a major noncash expense for real estate firms. While depreciation and amortization are a required charge to earnings under generally accepted accounting principles (GAAP), it is a noncash charge that means net income understates the actual cash earnings of the company.
Invitation Homes’ new guidance is that 2022 FFO per share will come in between $1.66 and $1.72 per share. This gives the company a price-to-FFO ratio of 20 times guided FFO per share. This is a reasonable multiple for a REIT. The dividend yield of 2.5% is on the low side for a REIT, but Invitation has been plowing excess cash back into the business.
The bottom line is that any decline in real estate prices will have a de minimus effect on Invitation stock in the near term. 

Brent Nyitray, CFA has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Invitation Homes Inc. The Motley Fool has a disclosure policy.
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