January 11, 2018

The Vacation Rental (Short-term Rental) Industry in 2018: What to Expect

As any historian will tell you, to get a better understanding of where we are going, it is beneficial to know where we have been. How did we get here? Looking toward the coming year in vacation and short-term rentals is no different. We saw many interesting developments in 2017 that will once again come into play in 2018.

The Year of the Giants
To begin, the overarching trend is a long-term one that has been building momentum for a number of years: increased professionalism within the industry. After all, this is the industry best known for Airbnb and VRBO (vacation rental by owner), how do professionals come into play? But as Jiffy Lube and others realized that just because people could spend their free time on the weekends changing their own oil, professional managers realized that just because owners could spend 8.4 hours a week renting the homes themselves did not mean they really wanted to do so. This has led to a proliferation of new management companies in recent years, surpassing 50,000 in the US alone according to some estimates.

What makes 2018 interesting is the sheer scale this professionalism will take. We got an idea for how big things would get in 2017 with the first nine-figure single funding round for a manager with Vacasa, as well as the largest financing round ever for a European manager when Hostmaker picked up more than $20 million over the course of 2017. Expect to see even more of this in 2018 as other managers, looking to go head-to-head with Vacasa and others, seek to deepen their pockets. Several well-known management companies who have already raised tens of millions of dollars are once again on the fundraising circuit. Expect more big announcements in 2018.

But all of these might just be a warm up. Tens of millions of dollars seems like a lot, and Vacasa’s nine-figure raise was eye watering for sure, but 2018 will no doubt see the industry’s first ten-figure acquisition for a manager. With Airbnb’s $1 billion offer for Wyndham’s European arm having already been rejected as too low, who knows how high the final price tag will be, but records are made to be broken, and this deal will be no different.

Taxing Implications
Another interesting development that has implications for this professionalization trend that came to pass as we ended 2017 is the new US tax bill. This is not some arcane piece of legislation, but rather will have a direct, and perhaps immediate effect on the industry. The bill impacts the industry in two ways.

Firstly, by taking away much of the benefits that many owners derived from the mortgage interest deduction on their vacation homes, the bill will hinder many vacation homeowners’ ability to be able to continue to afford their homes. As this forces more homeowners to sell out, expect to see downward pressure on house prices. As home prices go down, and yet demand for short-term rentals continues to grow, rental yields on these same properties will increase.

The second impact is less obvious, but no less real, and will attract a different kind of vacation homeowner. This is because while the law hurts individuals who depend on the mortgage interest deduction, it seriously favors corporations with its new low tax rate on them. These low taxes, in concert with the increased yields on the properties thanks to short-term rentals, will encourage more pure investors into the space as they purchase properties as corporations, effectively setting them up as small businesses.

And whereas the previous owners sought vacation homes first and vacation rentals second, these homeowners/investors are going to be all about ROI. They are also not the type of people looking to lose 8.4 hours of their life every week managing on VRBO or Airbnb. Hence greater demand for, and scrutiny of the best and most professional managers out there. As Return on Investment becomes the driving force for the industry, expectations of managers and the professionalism required from them will only increase.

Longer Term Impact on Prices and Yield
This is one of the least well understood areas of the industry. Articles have started coming out bemoaning the impact Airbnb is having on house prices and rental rates. “It is making homes unaffordable,” they cry. And yet another way to say the exact same thing is to point out that for those who own properties, including retirees and others who depend on appreciating assets, it is increasing property values. The angle of the headlines is certainly a giveaway as to the author’s bias.

But separately, 2018 will demonstrate this is not a one way bet. While increased demand for short-term rentals has driven up prices on some properties today, others are facing downward pressure from bad or uncertain regulation (see, e.g., Anaheim), as well as the loss of the mortgage interest deduction mentioned above. Less immediate, but no less impactful, is the fact that as prices go up for the properties, yield goes down. This decreases investor demand for the asset, over time pushing the price back down, and thus the yield back up. And the cycle begins anew. Basically the vacation and short-term rental industry is subject to the same laws of economics and real estate cycles as the rest of the world. This should hardly be surprising.

In sum, in 2018 we can expect another year of sensational headlines, record breaking deals, and breathless attention given to the space by people who ten years ago would have never have given it a second look. There will no doubt also be developments that were on no one’s radar ahead of time. But that’s what makes this so interesting and fun. May we all live in interesting times.

Happy 2018.

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