Manufactured Housing: A Rare Opportunity

Summary

• Despite reporting stellar results throughout the year, Manufactured Housing REITs' remarkable streak of eight straight years of outperformance over the REIT Index is suddenly in doubt entering the fourth quarter.
• Pressured by concerns over rising rates, inflation, and the broader rotation from growth into value, MH REITs have pulled back into "correction territory" for just the third time over the past decade.
• Consistent with the trends across the residential REIT industry, MH REITs significantly boosted their growth outlook last quarter, citing strong rental housing demand and substantial upwards rent pressures.
• Heightened rate sensitivity is the result of MH REITs' historically counter-cyclical fundamentals and the remarkable consistency in delivering mid-single-digit rent growth regardless of the macroeconomic environment.
• Beneficiaries of the intensifying housing shortage - creating a compelling backdrop for companies across the housing industry - the correction could be the long-awaited buying opportunity for these dividend growth champions.
• This idea was discussed in more depth with members of my private investing community, Hoya Capital Income Builder. Learn More »

JamesBrey/E+ via Getty Images

REIT Rankings: Manufactured Housing

(Hoya Capital Real Estate, Co-Produced with Colorado WMF)

Despite reporting stellar results throughout the year, manufactured housing REITs' remarkable streak of eight straight years of outperformance over the REIT Index is suddenly in doubt. Pressured by concerns over rising interest rates, inflation, and the broader rotation from growth into value, MH REITs have pulled back into "correction territory" - a 10% decline from recent highs - for just the third-time over the past decade. Within the Hoya Capital Manufactured Housing Index, we track the four MH REITs, which account for roughly $35B in market value: Equity LifeStyle (ELS), Sun Communities (SUI), UMH Properties (UMH), and Flagship Communities (FLGMF).

Beneficiaries of the intensifying affordable housing shortage, manufactured housing REITs have been the top-performing property sector over the past decade. As discussed in our Real Estate Earnings Recap, consistent with the trends across the residential REIT industry, MH REITs significantly boosted their growth outlook last quarter, citing strong rental housing demand and substantial upwards rent pressures. Equity LifeStyle raised its full-year FFO outlook by 410 bps to 13.8% while also boosting its same-store NOI growth outlook to 7.9% at the midpoint. Sun Communities somehow managed to top those impressive results by raising its full-year growth outlook by 610 bps to 24.0% and now sees double-digit NOI growth this year.

Driven by robust demand and limited supply of housing units, rental operators have benefited from a substantial increase in market rents across the country and throughout essentially all segments of the sector including MH units, apartments, and single-family rentals. Zillow (Z) reported last week that the pace of rent increases continues to accelerate across the U.S. with median rents rising 8.5% in August from last year. Realtor.com reported that rents rose to record-highs in August with national rental rates growing by 11.5% from the prior year, the first month of double-digit rent growth on record. Apartment List released their October Rent Report, which showed that rents have risen by a "staggering" 16.4% through the first nine months of 2021.

Earlier this year, Harvard University’s JCHS published its annual "State of the Nation's Housing." Researchers noted that "the supply of existing homes for sale has never been tighter," as soaring home prices and rents have been fueled by "the combination of robust demand and limited supply." JCHS concluded that "the pandemic is partially to blame for such tight conditions, but the biggest reason behind the constraints on supply is the underproduction of new homes since the mid-2000s." The report noted that "supply constraints are nearly universal," but particularly in the affordable housing segments. A separate report by the NAR estimated that the underproduction of new housing units relative to household formation totals 6.8 million units.

As noted in the JCHS report, "Work-From-Anywhere" has led to an uptick in not only traditional exurban housing demand like MH communities, but perhaps more significantly, it has powered a surge in demand for recreational vehicles ("RV") and boat sales. MH REITs' amplified focus on these analogous asset classes - RV parks and marinas - was perfectly-timed ahead of the coronavirus pandemic, providing an added external growth tailwind. RV parks now comprise roughly a third of assets for ELS and SUI, while marinas comprise 5% and 18%, respectively. UMH and newly-listed Flagship focus exclusively on traditional manufactured housing communities.

MH REITs have historically been one of the most interest-rate-sensitive REIT sectors - a function of their historically counter-cyclical fundamentals and the remarkable consistency in delivering mid-single-digit rent growth regardless of the macroeconomic environment. The diversification into RV parks and boat marinas - which have a more economically sensitive demand and cash flow profile - have provided a pro-cyclical counterbalance that should neutralize some of the potential headwinds from rising rates and inflation. The RV Industry Association expects RV sales to climb to their highest historical total ever this year despite facing similar supply chain issues as traditional homebuilders, demand that helped power a 6% rise in RV rents last quarter.

Recreational boat sales are also poised to set record-highs this year despite inventory levels that are "the leanest they’ve ever been." The recreational boating industry - which includes MarineMax (HZO), Malibu Boats (MBUU), MasterCraft Boat (MCFT), and Brunswick Corporation (BC) - have significantly outpaced the broader equity market since the start of 2020. With SUI's major investment in Safe Harbor Marinas, these MH REITs are now the two largest owners of marinas in the country. Institutional-quality marinas - of which there are roughly 500 across the U.S. - offer substantial operating parallels to the company's RV business. ELS now owns 23 marinas comprising 6,800 slips while SUI owns 41,275 slips across 114 marinas.

Sales of new manufactured housing units have also exhibited a strong acceleration over the last year, eclipsing 100k units in a twelve-month period for the first time in 14 years, driven largely by site expansions of existing MH REIT parks. MH sales peaked in the late 1990s when zoning and credit standards were loose, but declined sharply beginning in the early 2000s during the pre-GFC housing boom as demand shifted to site-built homes. MH units are typically the most affordable non-subsidized housing option in most markets and the manufactured housing resident base is incredibly "sticky", as the average MH owner stays in a community for 14 years, far higher than the 3-5 year average for other rental units.

MH REITs have been the "canary in the coal mine" of the intensifying housing shortage for the past decade, continuing to produce sector-leading NOI and FFO growth and, as a result, have outperformed the Equity REIT Index in each of the past eight years - the longest streak of consecutive outperformance ever within the REIT sector. Beneficiaries of this intensifying housing shortage - which creates a compelling backdrop for companies across the housing industry - we believe that the recent stock price correction could be the long-awaited buying opportunity for these dividend growth champions.

MH REIT Stock Price Performance

MH REITs gained nearly 15% in the weeks following their stellar second-quarter earnings reports - and were briefly the second-best-performing REIT sector on the year - but have given up these gains in recent weeks given the recent concerns over rising rates and inflation. Despite the roughly 10% correction from recent highs set in early September, MH REITs are still higher by 24.3% this year, still outpacing the 21.5% gains from the market-cap-weighted Vanguard Real Estate ETF (VNQ), and beating the 16.1% returns from the S&P 500 (SPY) and 16.4% gains from the Mid-Cap 400 (MDY).

Interestingly, while extending their streak of outperformance last year, 2020 was the first year since 2009 that MH REITs produced negative total returns. Consistent with the "reopening theme" across the REIT sector, small-cap UMH - which had lagged its two larger peers over the last decade - has led the way this year after boosting its dividend for the first time since 2008. With the strong gains this year, UMH has "caught-up" with the performance of ELS and SUI since the start of 2015, each of which have delivered returns between 21.1% and 22.2% over this time, among the best in the REIT sector.

The non-REIT players in the manufactured housing and RV industry have also put together another strong year. Leading the way this year has been MH builder Skyline Champion (SKY) and retailer Camping World (CWH), which have each surged more than 50% this year, followed by Cavco Industries (CVCO), which has gained nearly 25%. RV manufacturers including Thor Industries (THO) and Winnebago Industries (WGO) have given back some of their gains over the last quarter, however, as have Patrick Industries (PATK) and LCI Industries (NYSE:LCII) on concerns over supply chain constraints and pressured by the broader reopening rotation.

Deeper Dive: Inside Manufactured Housing

Roughly one-in-twelve Americans live in a factory-built manufactured home, and shipments of these units represent roughly 10% of housing starts in a typical year. MH REITs comprise 2% of the "Core" REIT ETFs and also represent 4% of the Hoya Capital US Housing Index, the benchmark that tracks the performance of the US housing industry.

The quality and appearance of MH parks can vary significantly from communities that are nearly indistinguishable from a typical single-family master-planned community to the stereotypical "trailer parks." Often misunderstood by investors, manufactured homes are generally not "mobile" (except for recreational vehicles "RVs") as about 80% of MH units remain where they were initially installed, and while units are generally built to higher-quality standards than commonly believed, the JCHS report noted the MH homes were among those most "in need of repair."

These REITs generally own communities in the higher tiers of the quality spectrum and are more "retiree-oriented" than the average MH community. MH REITs operate with some of the most well-capitalized balance sheets across the real estate sector. ELS and SUI operate with debt levels well below the REIT sector average of 34%, while UMH operates with higher leverage levels. Capital is cheap when balance sheets are well-managed, underscored by ELS's issuance of 10-year notes with a fixed interest rate of just 2.4% while SUI issued 10-year notes for 2.7%.

For residents, the economics of MH takes on the qualities of both renter and homeowner. Residents generally own their home but lease the land underneath it, paying an average of $70k for a new 1,500-square foot prefabricated home. The average monthly lease to set their home on a site and hook up to utilities in MH or RV community can range from $300 to $1,000 per month. By foregoing the investment in the land, however, property appreciation is generally minimal, and as a result, MH homeowners in land-lease communities generally cannot finance MH or RV purchases with traditional mortgages, and as with RVs, owners must finance the acquisition with a personal property (chattel) loan at a higher interest rate.

Manufactured Housing REIT Earnings

The headwinds observed during the peak of the pandemic in mid-2020 - the shutdown of RV parks and the slowdown in RV and manufactured housing sales - have swiftly become tailwinds amid a broader revival across the U.S. housing industry and other WFH-related industries. As noted above, MH REITs reported incredible same-store NOI growth of nearly 20% in Q2 driven by resurgent demand in its transient RV facilities - many of which were temporarily closed during the comparable Q2 of 2020. Occupancy rates ticked higher by another 80 basis points in Q2 while "core" manufactured housing rents increased by 3.6%.

Utilizing a strong cost of equity capital, these REITs have continued to grow externally by adding units to existing sites and by growing via acquisitions and site expansions. MH REITs acquired nearly $2 billion in assets over the last year, largely in one-off acquisitions while disposing of just $10 million. On its earnings call, SUI CEO Gary Shiffman did note that while the acquisition pipeline remains robust, there is "lots of competition out there in the MH, the RV side, and a little bit on the marina side." SUI sees cap rates "similar to where they've been" with MH and RV "in the 4% to 5% cap rate range, and we're seeing them dip even sub-3% in some cases."

Manufactured Housing REIT Dividend Yields

One of the more growth-oriented real estate sectors, Manufactured Housing REITs pay an average dividend yield of 1.8%, ranking towards the bottom of the REIT sector and below the market-cap-weighted average of 2.8%. MH REITs, however, have delivered one of the strongest rates of dividend growth over the last five years. ELS and SUI were two of 52 equity REITs to raise their dividend in 2020 and all four REITs have boosted their payouts in 2021, part of a wave of more than 110 REIT dividend boosts this year. MH REITs pay out less than 60% of their available cash flow, implying greater potential for future dividend growth and more free cash flow to fund external growth.

UMH Properties pays the highest dividend yield in the sector at 3.25%, but went nearly two decades with zero dividend growth before finally raising its distribution for the first time since 2008 earlier this year. Equity LifeStyle pays a dividend yield of 1.85%, while Sun Communities pays a dividend yield of 1.78%. ELS has delivered average annual dividend growth of 13.2% over the last five years, among the best in the REIT sector, while SUI has chosen to retain as much capital as possible - and issue new equity - to fuel further accretive growth. Despite their differing capital raising strategies, both REITs have delivered nearly identical total returns over the past decade.

For investors looking to take the "preferred route," UMH Properties has a suite of two preferred issues - UMH.PC and UMH.PD - that have initial call dates in July 2022 and January 2023, respectively. The two preferred issues - which are standard cumulative redeemable preferred stock - have delivered steady performance over the last several years and pay an average current yield of 6.25%, while trading at a slight premium to par value. These two issues delivered slightly negative price returns last year, but including the dividends, produced total returns of roughly 4% in 2020.

Manufactured Housing REIT Valuations

MH REITs haven't appeared "cheap" based on traditional static FFO-based metrics at any point during this historic eight-year stretch of relentless outperformance, but following the 10% correction - combined with the upward revision in FFO estimates - has resulted in the "cheapest" relative valuations in since the pandemic began. MH REITs currently trade with a Forward Price/FFO multiple of around 28x, a premium to the 23x multiple on the broad-based REIT index. MH REITs are one of the few REIT sectors that have consistently enjoyed a NAV premium over the past decade, which has helped to fuel accretive external growth.

Takeaways: Rare Opportunity In Pullback

Despite reporting stellar results throughout the year, manufactured housing REITs' remarkable streak of eight straight years of outperformance over the REIT Index is suddenly in doubt entering the fourth quarter. Pressured by concerns over rising rates, inflation, and the broader rotation from growth into value, MH REITs have pulled back into "correction territory" for just the third time over the past decade. Heightened rate sensitivity is the result of MH REITs' historically counter-cyclical fundamentals and the remarkable consistency in delivering mid-single-digit rent growth regardless of the macroeconomic environment.

No REIT sector has benefited more from the affordable housing shortage than MH REITs, which produced an incredible 22% annual compound total returns from 2010 through 2020. Consistent with the trends across the residential REIT industry, MH REITs significantly boosted their growth outlook last quarter, citing strong rental housing demand and substantial upwards rent pressures. Beneficiaries of the intensifying housing shortage - creating a compelling backdrop for companies across the housing industry - the correction could be the long-awaited buying opportunity for these dividend growth champions.

For an in-depth analysis of all real estate sectors, be sure to check out all of our quarterly reports: Apartments, Homebuilders, Manufactured Housing, Student Housing, Single-Family Rentals, Cell Towers, Casinos, Industrial, Data Center, Malls, Healthcare, Net Lease, Shopping Centers, Hotels, Billboards, Office, Storage, Timber, Prisons, Cannabis, High-Yield ETFs & CEFs, REIT Preferreds.

Disclosure: Hoya Capital Real Estate advises two Exchange-Traded Funds listed on the NYSE. In addition to any long positions listed below, Hoya Capital is long all components in the Hoya Capital Housing 100 Index and in the Hoya Capital High Dividend Yield Index. Index definitions and a complete list of holdings are available on our website.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of HOMZ, RIET, AMT, ARE, AVB, BXMT, DRE, DLR, EFG, EQIX, FB, FR, MAR, MGP, NLY, NHI, NNN, PLD, REG, ROIC, SBRA, SPG, SRC, STOR, STWD, PSA, EXR, AMH, CUBE, ELS, MAA, UDR, SUI, CPT, NVR, EQR, INVH, ESS, PEAK, LEN, DHI, HST, AIV, MDC, ACC, PHM, TPH, MTH, WELL either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Hoya Capital Real Estate ("Hoya Capital") is an SEC-registered investment advisory firm that provides investment management services to ETFs, individuals, and institutions, focusing on portfolio and index management of publicly traded securities in the residential and commercial real estate industries. A complete discussion of important disclosures is available on our website (www.HoyaCapital.com) and on Hoya Capital's Seeking Alpha Profile Page. It is not possible to invest directly in an index. Index performance cited in this commentary does not reflect the performance of any fund or other account managed or serviced by Hoya Capital Real Estate. Nothing on this site nor any published commentary by Hoya Capital is intended to be investment, tax, or legal advice or an offer to buy or sell securities. Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy and should not be considered a complete discussion of all factors and risks. Data quoted represents past performance, which is no guarantee of future results. Investing involves risk. Loss of principal is possible. Investments in companies involved in the real estate and housing industries involve unique risks, as do investments in ETFs, mutual funds, and other securities. Please consult with your investment, tax, or legal adviser regarding your individual circumstances before investing. Hoya Capital, its affiliate, and/or its clients and/or its employees may hold positions in securities or funds discussed on this website and our published commentary. A complete list of holdings is available and updated at www.HoyaCapital.com.

Comments

[Raven27936]

Thanks, my FLGMF up over 16% since I saw this on your article.....Unfortunately unable to afford paid service d/t health related unemployment.

[labman106]

Have you compared prefab housing to manufactured housing? Eventually, large sections of our major cities will have to be torn down for safety reasons and too costly maintenance with high labor costs. Supposedly, the Chinese can build ten-story buildings in weeks vs months to a year elsewhere. Any US companies doing the same? Meaning, why stop with manufactured houses, why not manufactured buildings on a large scale of 5 stories or higher?

[AlieGee]

MasterCraft is tops to water ski from....www.boats.com/... Glad it was mentioned in the article.

[clrodrick]

I already own SUI for number of years, and it is definitely a forever holding for me. Keep eyeing ELS to add as a complement, it's hard to get a true bargain dip buying opportunity in these names

[Hoya Capital]

@clrodrick Thanks for sharing - indeed, it was remarkable that this was just the 3rd correction in 10+ years. Compare that to a REIT like Simon Property which has had 4 "corrections" in just the past 12 months.

[Bobbie B]

@Hoya Capital Real Estate Growth through pain!

[Greg_Maryland]

Hoya,
Another excellent deep dive.

Who typically provides the chattel loans for the manufactured homes? Any lenders that specialize?

[Hoya Capital]

@Greg_Maryland This link from Urban Institute lists the Top 20 Manufactured Housing Lenders. A couple of pubic companies on the list including Wells Fargo and Guild Mortgage.

www.urban.org/...

[Greg_Maryland]

@Hoya Capital Real Estate Thanks!

[Rob G. in Vegas]

@Greg_Maryland Believe it or not, but the top two lenders are Warren Buffett companies!

[Capt. Spaulding]

Hoya Capital: Thank you for another excellent tour of the (sector) horizon. Much appreciated, as ever.

My two cents: From my perch in SW FL, the marina angle makes a great deal of sense, at least intuitively. Any sources for information about the addressable market, economics of the business, etc.?

Cheers, and Hoya Saxa,
Capt. Spaulding

[Hoya Capital]

Thanks, @Capt. Spaulding! Agree - I think the marina business makes a lot of sense. ELS and SUI have been among the largest owners of boat slips simply through their RV and MH parks, and I trust that they have a firm grip on the economics and the market opportunity.

I'll try to hunt down some good info on the institutional marina business. I recall that SUI or ELS had a good presentation on marinas - or at least a few good slides as part of their investor deck.

[Rob G. in Vegas]

My guess is that UMH eventually buys FLGMF. A way to pick up 10,000 sites in markets that UMH will invest in (Kentucky, Indiana) and the FFO multiple for Flagship is much discounted compared to the U.S. REITs.

[Philipsonh]

Reits are usually held by income investors; however, none of the 4 noted pay anywhere near a decent dividend. That does not help. For those of us who only hold products paying 4-5% or more annually, these are of no interest.

[Hoya Capital]

Thanks, @Philipsonh. Agree that there are two distinct camps in the REIT investing world - those looking for income and those looking for growth.

We try to cover (and offer investment options) for both sides of the sector.

[David Jensen, CFA]

@Philipsonh of no interest, to you.

Those of us with balanced REIT portfolios that include both income- and growth-oriented REITs find growth ideas interesting -- though more so last year than this year.

[clrodrick]

@Philipsonh - if you insist on only owning investments that payout 4%+ you are really missing out on some great opportunities!

[albertciampi]

It’s hard to go wrong with any of these REITS. I may pick up some SUI. Congratulations on your new ETF.

[Hoya Capital]

Thank you, @albertciampi!

[Bobbie B]

@Hoya Capital Real Estate What is the dividend rate?

[Hoya Capital]

Hi @Bobbie B - Information on Hoya Capital High Dividend Yield ETF (Ticker: RIET) is linked here: https://www.hoyaetfs.com/riet

Feel free to reach out directly with any questions.

[R. Paul Drake]

Thanks for the article. Regarding dividend growth, it is notable that SUI did not cut their dividend during the Great Recession, leaving less upside and constraining dividend growth. In contrast, ELS cut their dividend and has since grown it back at a rapid rate from a low base. By now their payout ratios are similar and so it would seem that their dividend growth rates will be less disparate going forward.
Paul

[Hoya Capital]

Very good point @R. Paul Drake. Indeed - ELS started from a lower-base and I think SUI got a bit ahead of itself when this particular time period in the analysis started. (2015)