The decline in treasury yields and the expectation of an extended period of low interest rates have raised investors’ hopes on the real estate investment trust (REIT) sector. But what they should really look forward to is an added boost from the uptrend in fundamentals in certain asset types, which REITs own and operate.
In fact, there are plenty of reasons to be optimistic about the equity REIT industry over the short and the long terms. Below we discuss what investors should look forward to:
Sectors That Look Promising
Take for example the Apartment REITs space. According to early numbers from Axiometrics’ apartment market research, annual effective rent growth was 5.2% in the third quarter of 2015, reflecting an increase from 5.0% in the prior quarter and 4.1% a year ago. This was also the highest rent growth in 9 years. The strength in the market was broad based with several of the metros registering positive quarterly effective rent growth. Occupancy of 95.3% in the third quarter was also the highest since early 2001.
Importantly, household formation is increasing but housing starts are failing to keep pace, leading to greater demand for apartments. Also, home ownership cost is rising in several markets. Millennials are moving out from their parents’ dwelling early and renting their own pads, but paying off student debt, getting married later and parting with a huge share of their monthly income for rents is leading them to struggle for a mortgage, keeping demand for residential units strong. Companies that particularly remain in a favorable position include Armada Hoffler Properties, Inc. (AHH), Camden Property Trust (CPT), Equity LifeStyle Properties, Inc. (ELS) and Essex Property Trust Inc. (ESS).
Now with the holiday season round the corner, how can the Retail REITs be left behind? In fact, consumer spending is expected to continue to get decent support with anticipation of a longer period of low oil prices. And according to the report on the National Real Estate Investor site that cited an August report from RBC Capital Markets, planned store openings for the coming two years have been increased by the U.S. chain retailers. Well, this raises hope for greater space demand at the Retail REITs.
What’s more interesting is that amid a boom in e-commerce and online retail sales, retail REITs haven’t shied away from going to the mattresses. Companies like Simon Property Group Inc. (SPG - Free Report) and General Growth Properties, Inc. (GGP - Free Report) keep on aiming higher satisfaction for customers and greater footfall at their malls by emphasizing omni-channel retailing, same-day delivery and one-stop shopping, dining and entertaining options.
On the other hand, Kimco Realty Corporation (KIM - Free Report) is targeting an increase in its small shops’ portfolio. These shops comprise service-based industries such as saloons and spas, personal fitness, and medical practices which enjoy frequent customer traffic and are Internet-resistant.
Such a backdrop encourages us to target stocks that have a better Zacks Rank. Among these are American Assets Trust, Inc. (AAT), Cedar Realty Trust, Inc. (CDR) and The Macerich Company (MAC - Free Report) .
Industrial REITs too are capitalizing on the e-commerce boom and urbanization pressure. With a larger customer base, companies are opting for supply-chain consolidation. This is leading to greater demand for logistics infrastructure and efficient distribution networks, creating scope for Industrial REITs. As such, stock like First Industrial Realty Trust Inc. (FR - Free Report) and Monmouth Real Estate Investment Corp. (MNR - Free Report) remains our top choice.
Moreover, economic improvement, migration for jobs and living in comparatively smaller apartments near cities is driving the demand for Storage REITs. Stocks that deserve your attention include Public Storage (PSA), Extra Space Storage Inc. (EXR) and CubeSmart (CUBE).
Opportunities in other spaces exist as well. Rate issues might have a short-term adverse impact on the health care REITs for their long-term leased assets’ exposure. But an increase in the elderly population and consequent proliferation of health care expenses coupled with a rise in new insured individuals with the health care reforms is driving demand for several types of health care facilities and senior housing. Major players like Ventas Inc. (VTR - Free Report) and Health Care REIT Inc. (HCN) have already treaded the acquisition route to capitalize on this trend.
For Lodging/Resorts REITs, though a slowdown in the leisure business in the U.S. in the third quarter made companies like Host Hotels & Resorts, Inc. (HST - Free Report) and Pebblebrook Hotel Trust (PEB - Free Report) revise their estimates, the outlook for Q4 remains good. In fact, with manageable travel costs and energy savings, leisure travel is expected to get a boost and REITs stand well to gain from that.
Stocks that can enhance the value of your portfolio include Hersha Hospitality Trust (HT - Free Report) and LaSalle Hotel Properties (LHO - Free Report) .
What If Rates Move Up?
Even when the rates do eventually move up, REITs with the power to adjust their rents relatively quickly will be better placed. Notable among these are Hotel REITs, Self-storage REITs and Apartment REITs that offer short-term leases.
Hotel REITs have in fact the shortest leasing periods, usually ending in days. Storage REITs have a leasing period of generally a month which may extend up to six months while Apartment REITs have a leasing period of maximum one year. So even when rates move up, these REITs can well price in their lease rates.
As you can see, leaving aside the rate hike and treasury yield issue, there are plenty of reasons to be optimistic on the REIT industry.
Check out our latest REIT Industry Outlook here for more on the current state of affairs in this market from an earnings perspective.