2023-04-01 09:00:00 ET
Summary
- REITs get a bad rep these days.
- Investors fear that REITs will vanish as they face a perfect storm.
- True or false? I share my thoughts and discuss some top picks.
Recently, I had a reader tell me that:
"Your REITs will vanish..."
After talking a bit more with that reader, it seems that he/she believes that REITs (VNQ) are facing a perfect storm with...
- Declining rents
- Crashing property values
- Surging interest rates
- High leverage
- Right as increasingly many banks are tightening lending requirements.
On the surface, I agree that this may sound scary.
But here's where this is all wrong.
The reader appears to think that REITs = Office buildings.
Many decades ago, this used to be the case. Most REITs used to invest in office buildings, and it was one of the largest property sectors of the REIT market.
But today, that isn't the case anymore.
It is now a tiny sub-sector of the REIT market. There are individual REITs like cell tower REIT American Tower Corporation (AMT) that are far larger than the entire office REIT sector, and yet, there are still a lot of investors who appear to still think that REITs = offices.
This is likely because various media outlets keep referring to office buildings as "commercial property," when in reality, commercial property is far more diverse than just office buildings:
Office buildings may be suffering, but the REIT sector is vast and versatile with over 20 different property sectors...
- Industrial
- Apartment
- Retail
- Hotel
- Net Lease
- Senior housing
- Skilled nursing
- Hospital
- Medical Office
- Manufactured Housing
- Single-Family Rental
- Student Housing
- Self Storage
- Timberland
- Farmland
- Casinos
- Billboard
- Data Centers
- Cell towers
- Fiber
- Infrastructure
- Ground Lease
- Cannabis
- Mortgages
- Etc.
... and most of these property sectors are doing just fine.
REIT balance sheets are today the strongest they have ever been, with just 35% Loan-to-Value on average:
Cash flows are also growing at a good pace. REITs are not materially impacted by the rising interest rates because they use little debt and have long maturities, but they greatly benefited from the surge in inflation as it led to higher rents.
I just recently attended the Citi Global Property Conference. Most REIT CEOs appear to expect 3-5% same-property NOI growth in 2023. This should push REIT cash flows to new all-time highs:
So, no, your REITs will not vanish.
The office sector is today going through some challenges and a few office REITs may fail.
But it is important for you to understand that the office sector is not representative of the broader REIT market.
95% of REITs are not investing in office buildings, and yet, they are all heavily discounted, guilty by association:
I think that this is a great buying opportunity.
According to a recent study by Janus Henderson, REITs are now priced at a 28% discount to their net asset value, on average.
This essentially means that REITs are priced at just around 70 cents on the dollar - relative to the value of their real estate. Such low valuations are reminiscent of the great financial crisis:
A 30% discount would make sense if REITs were facing severe difficulties, but this simply isn't the case.
Moreover, it should also be noted that this is just the average discount. Many individual REITs are today priced at even larger discounts than that:
- Texan apartment landlord, BSR REIT (BSRTF), is priced at a 43% discount to its net asset value.
- Lab space owner, Alexandria Real Estate (ARE) is priced at a 37% discount to its net asset value.
- Sunbelt-focused service retail landlord, Whitestone REIT (WSR) is today priced at a 41% discount to its net asset value.
Whitestone REIT
All three of these REITs own desirable assets, have good balance sheets, and attractive growth prospects, but they are today heavily discounted because of the misconception that REITs = office = trouble.
We are buying these opportunities because it does not take a genius to understand that buying real estate at a steep discount to its fair value should result in attractive returns in the long run.
For further details see:
Your REITs Will Vanish