Good News (No, Really) for Real Estate Market

Nov. 5.10 | About: iShares U.S. (IYR)

MIT’s Center for Real Estate announced Thursday that commercial property values sank by 7.3% during the third quarter. The news isn’t as bad as it sounds, though—and provides another reason for confidence about acquisitions by publicly traded REITs going forward.

The Transactions-Based Index (TBI) measures changes in property values that are revealed by transactions from among the properties in the data base of the National Council of Real Estate Investment Fiduciaries (NCREIF) — primarily properties owned by large pension funds. The TBI shows that property values are still 36.3% below their peak in 2007Q2, though 4.7% above their 2009Q2 trough.

In a commentary published along with the TBI, MIT Professor David Geltner pointed out the good news in the dismal numbers: “the number of transactions in the TBI was greater, both in number and in percent of the stock, than in any quarter since the end of 2007.” Increased transaction volume means that sellers are finally becoming more willing to part with their assets, and that investors with access to capital are finally getting the chance for accretive acquisitions.

Dr. Geltner noted that “trophy” properties actually continued to increase in value, and now are worth roughly 14% more than at their trough. In fact, he thinks that the improvement in the “trophy” market is what has made it possible for pension funds and their investment managers to start putting other properties on the market: “NCREIF members used the opportunity of greater-than-expected profits on larger properties to allow them to cull” properties that don't fit as well in their portfolios.

This dynamic is important for REIT investors. REITs’ access to capital on favorable terms gives them a competitive advantage over other real estate investors. Until recently, however, about the only assets available for purchase have been those “trophy” properties, whose values have been pushed up by the general “flight to quality.” So the fact that transaction volume is up—especially in the non-trophy part of the market—suggests that REITs will have more opportunities to pick up good acquisitions before the recovery spreads to non-trophy properties—which, eventually, it will. Those accretive acquisitions will likely be a significant part of what REIT investors think will become strong earnings growth going forward.

Disclosure: Author is long ING Real Estate Fund and Vanguard REIT Index Fund.

Disclaimer: The opinions expressed in this post are my own and do not necessarily reflect those of the National Association of Real Estate Investment Trusts ((NAREIT)). Neither I nor NAREIT are acting as an investment advisor, investment fiduciary, broker, dealer or other market participant, nor is any offer or solicitation to buy or sell any security investment being made. This information is solely educational in nature and not intended to serve as the primary basis for any investment decision.