Realty Check

Sweet REIT Rewards

I was surprised to see a report from the National Association of Real Estate Investment Trusts that "U.S. REITs gained more than 5 percent in February...driven by gains in the retail and apartment sectors."

Sudden disconnect.

Retail is flailing under job losses and consequent weak consumer spending, and rock-bottom priced housing is forcing rental rates down and vacancies up in the apartment sector.

How could REITs in these sectors be performing so well?

A few answers:

From NAREIT's Ron Kuykendall:

Remember that REITs are stocks and, consequently, are forward looking. Investors aren't buying today's' fundamentals as much as what they think tomorrow's' will be.

One of the dynamics investors have been looking for is for REITs to use the capital they raised in the public markets last year to make acquisitions of properties from private side owners who couldn't tap the public equity markets. The beginnings of those kinds of strategic acquisitions are happening in these two segments. We have seen apartment REITs Avalon Bay and Equity Residential making these acquisitions. In the retail area Equity One is negotiating acquisitions of properties from Liberty. Federal Retail Properties Trust has publicly said it is looking for acquisitions. Of course, there is the drama playing out re General Growth Properties.

From Real Capital Analytics' Dr. Sam Chandan:

The best-positioned REITs are facing the same general set of challenges in managing lower occupancy and rents as the rest of the marketplace.

But these REITs have also been very successful in raising capital in the public markets over the last few quarters.

This has allowed them to retire pending debt maturities, reduce their overall leverage, and build a store of cash that they will now use to purchase real estate assets at a discount. Taking a long view, buying assets at a discount now, when the market is generally undercapitalized, may be highly accretive to the REITs’ balance sheets once property fundamentals stabilize. This combination of reduced debt-related risks and REITs’ “dry powder” to fuel acquisitions is the primary driver of returns right now.

Questions?  Comments?