REIT Fundamentals Look Good
RESIDENTIAL REITS
What are they?
This group specializes in apartment buildings and other multifamily real estate complexes.
What's S&P's take?
"Our fundamental outlook for the residential REITs subindustry is neutral. During the March quarter, we believe vacancy rates for rental apartments increased for the second consecutive reporting period, reflecting seasonality as well as renewed supply. In addition, we believe renters may be starting to resist rent increases that averaged 4 percent to 6 percent in 2006...We see a few more challenges awaiting these companies later in 2007."
What trends are working either in favor of or against residential REITs?
These investment vehicles are currently enjoying a trio of tailwinds. Apartment occupancy rates remain historically high. Rising mortgage interest rates should dissuade some would-be buyers from re-entering the home ownership market. And low unemployment for the key demographic of renters—those 25 to 34—means a financially strong customer base.
But at the same time, there are three headwinds to consider. First, analysts note that with home prices falling, some renters may start to consider buying again, to take advantage of attractive pricing—regardless of mortgage interest rates. And if that occurs, demand for rental properties should slow. Second, because of the housing slowdown, property owners who had been converting their apartment buildings into condominiums have stopped doing so. In fact, some are starting to reverse course and converting condo buildings back into rental units, thereby increasing the supply of apartments on the market. Shrinking demand and increasing supply are bad news for apartment rents. Finally, there's the economy to consider. Though the U.S. economy is surprisingly resilient, it's still expected to slow this year, and that could hurt consumer spending.
RETAIL REITS
What are they?
This group specializes in shopping centers, malls, and other retail-oriented buildings.
What's S&P's take?
"We have a positive fundamental outlook on the retail REITs subindustry. With U.S. real GDP continuing to rise, consumer spending increasing, and retailers expanding, we believe same-property revenue and net operating income will likely be positive across the industry over the next 12 months. However, we expect to see differentiation among property types; we think regional and super-regional mall owners/managers will post the best performance. In addition, we think many retail REITs will continue to seek to boost earnings via other means, such as property acquisitions."
What trends are working either in favor of or against retail REITs?
While industrial REITs may benefit from the global economy, retail REITs depend more on the health of the domestic economy. And even though the U.S. economy remains strong, it's still expected to slow throughout the year. On the other hand, consumers have shown an uncanny ability to spend through financial slowdowns. And even though interest rates have been rising, they're still modest by historical standards, which should help consumers.
SPECIALIZED REITS
What are they?
This group specializes in niche properties, including lodging (hotel REITs), self-storage, and medical facilities (healthcare REITs).
What's S&P's take?
"We have a positive fundamental outlook on the specialized REITs subindustry. We believe the strong macro economy has generated increased demand for a number of the services provided by specialized REITs, including lodging, self-storage, and timber. The growth in demand for products and services has been magnified by limited supply growth in a number of groups within the subindustry as cost of construction, land availability, and investor focus on other sectors have limited new projects. We see healthcare REITs as less impacted by the general economy, with their growth influenced by trends in government reimbursement policies and population demographics. We believe stability in government policy and the aging baby-boomer population are positive trends for healthcare REITs."
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