US: Signs of hope for REIT sector?

Posted On Tuesday, 08 April 2008 02:00 Published by
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Annual REIT conference in New York draws some views from analyst Greg Sukenik

1. There was a relative slow-down in the REIT sector for 2007. How will the markets recover and what have they learned?

The slowdown in the sector in 2007 showed that valuations and multiples, which had stretched to historic highs, were ahead of themselves. The REIT run could not go on indefinitely, and commercial property values may have peaked in early 2006.

However, 2008 will be another tough year for REITs. The housing market will continue to decline this year and will continue to pull down the overall economy. This, in turn, negatively affects owners of commercial real estate. Overall, we project moderate REIT earnings growth in 2008, and we think that sector indexes will not be positive in 2008.

We would definitely stay in the industry, despite declining share prices, and allocate between 5 percent and 15 percent of a diversified portfolio to REITs. They add great diversification, they do not follow the broader market, and real estate is a good hedge against inflation. They also offer steady and dependable income, which is important in a volatile market. Pick REITs with stable dividends that are being adequately covered by operating earnings, as this is a precursor to increases.

2. Previously, you worked for AMLI Residential Properties Trust. From that experience, what are your predictions for the apartment REIT sector for 2008?

Apartment fundamentals are getting worse. That is, rent growth is moderating in many markets across the county. We expect this to continue in 2008. While the worsening “for-sale” housing market does help rentals to some extent, other factors negatively affect apartment owners. What was once for-sale housing is being put back into the market as rentals, which has created more competition.
This is especially true in overheated housing markets, such as Florida, where people are having difficulty selling condos and, instead, are renting them.

Additionally, with housing prices falling, owning a home becomes more affordable. We are generally negative on the sector in 2008 and think rent growth and occupancies will subside next year.

3. Where do you see the strongest opportunities for new investors in the real estate securities markets?

Stick with the larger, blue chip REITs in 2008. Buy companies with a concentration of assets in higher barrier urban areas. If the economy continues to weaken in 2008, these companies are the best defensive plays.

We think mergers and acquisitions activity will pick up again in late 2008, when credit markets stabilize. Smaller companies with low multiples that are trading at significant discounts to NAV could be buyout targets when this happens. Maybe buy some smaller cap, sector-focused REITs that could be attractive buyout candidates for larger REITs or private equity. However, trying to guess who will be acquired is a riskier strategy for those who like to speculate for the possibility of higher payoffs.

By sector, we still like retail-focused companies, particularly mall owners, who are performing well and have good comparative valuations. We are negative on suburban offices, as we think this sector will weaken in 2008. Vacancies are starting to tick up, and we expect more corporate layoffs, which lowers the demand for space.

4. With energy costs rising and more REITs looking to “go green,” what is the outlook for the sustainability sector in real estate?

Going green is getting more popular, and this will definitely accelerate in 2008 and beyond. Going green not only helps mitigate rising energy costs, but it also differentiates products from the competition. We think more REITs will publicize the fact that they are developing “green” assets. Although this could increase initial costs, this is more than offset by the energy savings and good public relations that being “green” brings.

Publisher: Real Estate Portfolio

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