The State Of REITs: March 2021 Edition

Summary

• Equity REITs continued their strong start to 2021 with a +7.74% average total return in February.
• Small-cap REITs (+10.77%) were the top performers in February, while large caps (+4.10%) saw smaller gains.
• 80.77% of REIT securities had a positive total return in February.
• Hotels and Shopping Center REITs led all property types in February while Corrections and Malls suffered double-digit losses.
• For the first time since the start of the pandemic, the average REIT is trading at a premium to NAV (+3.41%).

Photo by Kwarkot/iStock via Getty Images

REIT Performance

The REIT recovery picked up steam in February with an impressive 7.74% average total return. REITs outperformed the NASDAQ (+0.93%), S&P 500 (+2.76%) and Dow Jones Industrial Average (+3.17%) again in February. The market cap weighted Vanguard Real Estate ETF (VNQ) underperformed the average REIT again in February (+3.43% vs. +7.74%) and has achieved smaller gains year-to-date (+3.46% vs. +10.18%). The spread between the 2021 FFO multiples of large cap REITs (20.6x) and small cap REITs (14.3x) narrowed sharply in February as multiples contracted an average of 0.1 turns for large caps and expanded 2.4 turns for small caps. In this monthly publication, I will provide REIT data on numerous metrics to help readers identify which property types and individual securities currently offer the best opportunities to achieve their investment goals.

Source: Graph by Simon Bowler of 2nd Market Capital, Data compiled from S&P Global Market Intelligence LLC. See important notes and disclosures at the end of this article

Small cap (+10.77%) and mid cap REITs (+8.08%) saw the biggest gains in February. Large cap REITs (+4.10%) lagged behind their smaller peers. Year to date there has been a strong negative correlation between total return and market cap size. Micro cap REITs (+23.49%) have thus far in 2021 outperformed large caps (+3.24%) by more than 2000 basis points.

Source: Graph by Simon Bowler of 2nd Market Capital, Data compiled from S&P Global Market Intelligence LLC. See important notes and disclosures at the end of this article.

15 out of 20 Property Types Yielded Positive Total Returns in February

75% of REIT property types averaged a positive total return in February, with a wide 45.05% total return spread between the best and worst performing property types. Hotels (+25.58%) and Shopping Centers (+17.06%) had the strongest average returns, accounting for all 10 of the biggest gainers in February.

Corrections (-19.46%) and Malls (-13.65%) saw huge losses during a month in which the vast majority of REITs saw strong gains. GEO Group (GEO) is now the only remaining Corrections REIT after CoreCivic (CXW) elected to no longer remain a REIT last year. With the Democratic party in full control of both the executive and legislative branches, there is fear among investors that operators of private detention and corrections facilities will see very few of their federal contracts get extended. The degree to which the new Biden administration will be hostile to GEO Group and other private operators remains to be seen, but thus far the only contracts that have reached maturity have not been re-signed. Some portion of these facilities, however, will be able to be used to sign new contracts with state and local governments instead.

Source: Table by Simon Bowler of 2nd Market Capital, Data compiled from S&P Global Market Intelligence LLC. See important notes and disclosures at the end of this article

Malls (+46.37%), Hotels (+26.17%), Shopping Centers (+24.46%) and Land (+21.83%) have already surged to double digit gains as the economy continues to reopen and recover. Corrections (-16.31%), Student Housing (-3.12%), Data Centers (-1.16%) and Industrial (-1.07%) are the only REIT property types in the red after the first two months of 2021. 80% of REIT property types have averaged a positive return year to date, with 20% already achieving a double-digit gain.

Source: Table by Simon Bowler of 2nd Market Capital, Data compiled from S&P Global Market Intelligence LLC. See important notes and disclosures at the end of this article

The REIT sector as a whole saw the average P/FFO (2021) rise 0.7 turns during February (from 14x up to 14.7x). The average FFO multiples rose for 70%, declined for 20% and held steady for 5% of property types in February. There are no recent 2021 FFO/share estimates for either of the Advertising REITs. Land (33x) and Single Family Housing (23.2x) currently trade at the highest average multiples. Hotels (-2x) continue to trade at a negative FFO multiple as much of the hotel sector has not yet returned to positive FFO/share amid the ongoing Covid-19 pandemic. Corrections (3.8x) and Malls (5.7x) are the only property types trading at only a positive single digit multiple.

Source: Table by Simon Bowler of 2nd Market Capital, Data compiled from S&P Global Market Intelligence LLC. See important notes and disclosures at the end of this article.

Performance of Individual Securities

Washington Prime Group (WPG) had surged 116.59% in January as part of the Reddit-fueled flood of investment into heavily shorted securities. However, WPG gave back all of those gains in February as it plummeted -55.82%. WPG now has a negative total return (-4.3%) in 2021 despite more than doubling in January. The February share price collapse was magnified by the decision by WPG to pre-pay executive bonuses ahead of evaluating whether to pursue bankruptcy. At a time when WPG is badly cash-strapped, awarding $11.6M in bonuses to executives was not well-received by the market.

Hersha Hospitality Trust (HT) was the best performing REIT in February, rebounding +45.55%. The rest of the top 5 best performers were also hotel REITs: Braemar Hotel & Resorts (BHR) +39.6%, Xenia Hotels & Resorts (XHR) +38.01%, Sotherly Hotels (SOHO) +36.8% and CorePoint Lodging (CPLG) +33.77%. The continued decline in new Covid-19 cases coupled with a litany of states rolling back lockdown measures has given investors greater confidence that travel will begin to pickup later this year. Occupancy rates and ADR could both see significant improvements over upcoming months, but still appear very unlikely to return to the pre-Covid normal before the end of the year.

80.77% of REITs had a positive return in February with 72.53% in the black year to date. During the first two months of last year, the average REIT had a dismal -8.3% return, whereas this year the average REIT has seen a strong total return of +7.74%.

For the convenience of reading this table in a larger font, the table above is available as a PDF as well.

Dividend Yield

Dividend yield is an important component of a REIT's total return. The particularly high dividend yields of the REIT sector are, for many investors, the primary reason for investment in this sector. As many REITs are currently trading at share prices well below their NAV, yields are currently quite high for many REITs within the sector. Although a particularly high yield for a REIT may sometimes reflect a disproportionately high risk, there exist opportunities in some cases to capitalize on dividend yields that are sufficiently attractive to justify the underlying risks of the investment. I have included below a table ranking equity REITs from highest dividend yield (as of 02/28/2021) to lowest dividend yield.

For the convenience of reading this table in a larger font, the table above is available as a PDF as well.

Although a REIT's decision regarding whether to pay a quarterly dividend or a monthly dividend does not reflect on the quality of the company's fundamentals or operations, a monthly dividend allows for a smoother cash flow to the investor. Below is a list of equity REITs that pay monthly dividends ranked from highest yield to lowest yield.

Valuation

REIT Premium/Discount to NAV by Property Type

Below is a downloadable data table, which ranks REITs within each property type from the largest discount to the largest premium to NAV. The consensus NAV used for this table is the average of analyst NAV estimates for each REIT. Both the NAV and the share price will change over time, so I will continue to include this table in upcoming issues of The State of REITs with updated consensus NAV estimates for each REIT for which such an estimate is available.

For the convenience of reading this table in a larger font, the table above is available as a PDF as well.

Takeaway

The large cap REIT premium (relative to small cap REITs) significantly increased during 2019 and further expanded during 2020. However, it has narrowed at the start of 2021. Investors are now paying on average about 44% more for each dollar of 2021 FFO/share to buy large cap REITs than small cap REITs (20.6x/14.3x - 1 = 44.1%). As can be seen in the table below, there is presently a strong, positive correlation between market cap and FFO multiple.

The table below shows the average premium/discount of REITs of each market cap bucket. This data, much like the data for price/FFO, shows a strong, positive correlation between market cap and Price/NAV. The average Large cap REIT (+7.62%) and Mid cap REIT (+7.87%) trade at single digit premiums to consensus NAV. Small cap REITs (-1.85%) trade at a slight discount, whereas micro caps on average only trade at about ¾ of their respective NAVs (-25.15%).

The downward trend in short interest in US stocks has picked up speed thanks to the Wall Street Bets traders and their targeted investment in heavily shorted stocks. Hedge funds now potentially face greater risks when taking outsized short positions given that they run the risk of suffering the kinds of losses that Melvin Capital experienced in their failed short position in GameStop (GME). Melvin Capital suffered a brutal 53% loss in January 2021 primarily due to a severe short squeeze in GameStop. If the trend toward fewer or smaller short positions continues, share prices of troubled companies may see less downward pressure and those companies may potentially retain greater flexibility when it comes to issuing common and preferred shares.

Although many REITs (particularly those with retail tenants) struggled to collect rent from tenants early in the pandemic, now virtually all of them have rent collection over 90%. Federal Realty Investment Trust (FRT) is the only shopping center REIT that has reported collecting less than 90% of Q4 2020 rent. The recovery has occurred rapidly for some of the most severely impacted REITs, such as Tanger Factory Outlet Centers (SKT) which only collected 33% of Q2 2020 rent payments, but has collected 95% in Q4. Macerich (MAC) has similarly bounced back from 46% rent collections in Q2 up to 92% in Q4.

Some industrial and office REITs took a hit as well, such as Rexford Industrial Realty (REXR) which dropped to as low as 87.2% rent collection before recovering to nearly 98% or Empire State Realty Trust (ESRT) which saw rent collection sink to 84% and only recover to 95% thus far. Many REITs were hardly impacted, however, such as W. P. Carey (WPC) and Gladstone Commercial (GOOD). WPC briefly dropped to 96% before quickly recovering to 99% rent collection. GOOD, an industrial and office focused triple net REIT, never dropped below 98% rent collection. Tenant quality is too often measured simply by the percentage of tenants that are investment grade. Over the last year, however, we got a much more accurate picture of which REITs have done good underwriting and have strong, resilient tenants. By carefully analyzing REIT data and industry trends, active investors have the opportunity to outperform ETFs.

Analyst’s Disclosure: I am/we are long GOOD, GEO, WPC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

2nd Market Capital and its affiliated accounts are long GOOD, GEO and WPC. I am personally long GOOD, GEO and WPC. This article is provided for informational purposes only. It is not a recommendation to buy or sell any security and is strictly the opinion of the writer. Information contained in this article is impersonal and not tailored to the investment needs of any particular person. It does not constitute a recommendation that any particular security or strategy is suitable for a specific person. Investing in publicly held securities is speculative and involves risk, including the possible loss of principal. The reader must determine whether any investment is suitable and accepts responsibility for their investment decisions. Simon Bowler is a sector analyst with 2nd Market Capital Services Corporation. 2nd Market Capital Services Corporation(2MCSC) provides investment research and consulting services to the financial services industry and the financial media. 2MCSC does not provide investment advice. 2MCSC is a separate entity but related under common ownership to 2nd Market Capital Advisory Corporation (2MCAC), a Wisconsin registered investment advisor. Simon Bowler is an investment advisor representative of 2nd Market Capital Advisory Corporation. Positive comments made by others should not be construed as an endorsement of the writer's abilities as an investment advisor representative. Commentary may contain forward looking statements which are by definition uncertain. Actual results may differ materially from our forecasts or estimations, and 2MCSC and its affiliates cannot be held liable for the use of and reliance upon the opinions, estimates, forecasts and findings in this article. Although the statements of fact and data in this report have been obtained from sources believed to be reliable, 2MCSC does not guarantee their accuracy and assumes no liability or responsibility for any omissions/errors.