The REITs have been one of the weakest groups in the market since they peaked some 24 days ago. During the previous 86 days, they were one of the strongest groups among the 22 that I follow. On the way up, they led the market by a wide margin. On the way down, they gave back just about all of their gain. On the way up, the investment community must have thought the REITs were godsends. And when it reversed its opinion, decided they were going to hell.
That begs the question, what's wrong with the REITs? Since it is Sherlock Holmes' business to know things that other people don't know, I'm going to put on my Sherlock Holmes cape and cap, light my pipe, take out my magnifying glass and pretend that I'm telling what I know to Dr. Watson, my dimwitted associate who marvels at my magnificent and unparalleled ability to solve a mystery such as the one called, "What's wrong with the REITs?"
You (the reader) can accompany me as I track down the culprit who did it in this "who-done-it" thriller. Watson isn't the sharpest knife in the drawer, so I have to draw a picture for him and explain the significance of what's going on in the picture. I hope that you (the reader) will not spoil things by telling him that there isn't much wrong with the REITs other than the fact that higher interest rates are indicated for the near term. Such rates shouldn't be too burdensome for most of the REITs. And as long as general economic conditions show some growth and the political divide in Congress doesn't get unhinged, most REITs should be able to post improved operating results in 2013 and 2014. I think the biggest threat for the REITs (and everybody else) relates to the political divide. You can never tell what extremists among politicians will do because some are capable of cutting off our noses (not theirs) to spite our faces.
Since everything with me is elementary (remember I'm cast in the role of Sherlock), let's start with Elementary #1: it's a chart showing the performance of stocks in my index of 24 REITs and the S&P Equal Weight Index (RSP).
This chart won't require much explaining, so I will make a few comments about its salient features and move on to Elementary #2. The bold black line is the RSP index and the bold white line is my index of 24 REITs. The REITs outperformed the RSP by a wide margin for the first 86 days of the 110 days charted. Their gains were 23% and 14%, respectively. At that point, the market changed direction and went south as the RSP gave back a third of its gain. The REITs gave it all back. The outliers on the upside were Omega Healthcare (OHI), which is the thin black line, and the RAIT Financial Trust (RAS), the rose colored line. The worst stocks (and the outliers) among the poor performers were Boston Properties (BXP), the red line with dots, Tanger Factory Outlet Centers (SKT), the blue line, and the Redwood Trust (RWT) the yellow line. If you exclude the five outliers, the other 19 REITs performed pretty much in unison on the upside as well on the downside. That's all Watson needs to know about Elementary #1.
In Elementary #2 I present, as evidence, the table shown below. It lists consensus earnings estimates by the analysts for 2013 and 2014.
The six stocks listed are among the 24 I follow. The analysts are forecasting higher FFO numbers for 2013 and 2014 for all of them. And they have "buy" or "neutral" ratings on all of them. So it isn't bearish recommendations coming from the analysts that are causing the REITs to be poor performers in the market. If I had expanded the list to include all 24 of my REITs, I would have shown growth estimates similar to those shown here. So by the process of elimination, I will now zero in on who the culprit was who did it in this who-done-it thriller?
In Elementary #3, I will prove beyond a reasonable doubt who (or what) destroyed the market value of the REITs.
Pictured in the chart are the RSP market index (the black line) and my index of 24 REITs (the white line). Three major ETFs are also shown: the REIT funds are the iShares (IYR) the yellow line, Vanguard (VNQ) the red line, and the SPDR Dow Jones fund (RWR) the blue line. As can be seen, my 24 REIT index outpaced all of the others on the way up, and also on the way down. Note how closely the three ETFs moved in relation to each other. Their portfolios were loaded with many of the same stocks. Now look at the yellow-dotted vertical lines on the chart. These divide the chart into 11 day segments. In the first segment near the middle of the chart, the combined volumes of shares traded for the three ETFs averaged 10.6 million shares per day. In the second segment, the average was 13.8 million. In the third segment, the average jumped to 23.6 million. And in the most recent segment, the average was 26.7 million shares. During the last three days, the volume of shares traded averaged an astounding 37.2 million shares. It should be noted that during the last three trading days, the REITs appeared to be stabilizing despite the heavy dumping of shares by the ETFs.
I think that once one of the ETFs started selling, the writing was on the wall for the other two. If they did not sell, the one would drive prices down and they'd be left holding the bag. So they chose to sell and what followed was a race to the bottom. That's good to know because it tells us the sharp declines in stock prices were not due to fundamental considerations. And, the prices of the stocks may have been driven down to bargain basement levels.
I submit that this provides the answer to the question "What's wrong with the REITs?" It's elementary. With the three ETFs now priced below their respective levels of six months ago, I think dumping by them should be about over. I know there were comments coming from pundits on Wall Street that the REITs were being sold because of the outlook for higher interest rates. Such rates should have little effect on the operating results of most REITs. Case closed.
The REITs weren't as good as they appeared to be when the momentum players were pushing them up and they aren't as bad as they appeared to be while the momentum players were dumping shares. We live in a capitalistic society. And in the predatory environment that exists in sections of Wall Street, anything goes. High-frequency trading often acerbates problems posed by the momentum traders. And both, in effect, are chiselers who prey upon others within the investment community. There is some truth in the statement the world isn't round and it isn't flat, it's crooked. As private investors we can lament (like Job did eons ago) and implore the Almighty to provide us with a level playing field on Wall Street. But I'm sure He has better things to do. If Wall Street is ever reformed, it will be because Judgment Day has arrived. So we may as well resign ourselves to the fact that we have to cope with things as they are. The alternative is to quit investing altogether.
With all of the economic and political problems extant and the market in a so-called "correction" mode, investors would be well advised to buy stocks on a timely basis and cut losses short if they don't perform. Putting in "low ball" bids makes a lot of sense. It's better to put in a low-ball bid and not get a fill than buy at the market and be stuck with a loss. Chasing bids is the way to get whipsawed. A lot of technical damage has been done within the stock market and there will be backing and filling during the days ahead. I think the REITs will start to outperform the market in the very near future. My favorite among them continues to be RAS.