REITs Reignite Animal Spirits

Summary

• U.S. equity markets rallied to fresh record-highs this past week on data showing faster-than-expected job growth and continued strength behind the housing market while jitters over rising interest rates calmed.
• Closing the holiday-shortened week at record highs, the S&P 500 gained 1.2% led by a rebound in large-cap technology stocks while Small-Caps and Mid-Caps lagged for the third straight week.
• Led by the residential REIT sectors, real estate equities were higher on the week as the broad-based Equity REIT Index gained 0.7% with 13 of 19 property sectors in positive territory.
• Housing data showed that robust levels of homebuying activity continue to clash with record-low inventory levels, which has accelerated the upward pressure on home values and suburban rents.
• Animal Spirits Reignited? Brookfield Asset Management reached an agreement with Brookfield Property to acquire the remainder of its outstanding shares. The $6.5B would be the largest REIT-involved deal in two years.
• This idea was discussed in more depth with members of my private investing community, Hoya Capital Income Builder. Learn More »

Real Estate Weekly Outlook

U.S. equity markets rallied to fresh record-highs this past week on data showing faster-than-expected job growth and continued strength behind the housing market while jitters over rising interest rates calmed. The 10-Year Treasury Yield was steady this week despite the strong slate of economic data and the unveiling of another massive $2 trillion government spending program on the heels of a similarly-sized stimulus package signed weeks ago.

(Hoya Capital Real Estate, Co-Produced with Colorado Wealth Management)

Closing the holiday-shortened week at record highs, the S&P 500 (SPY) gained 1.2% led by a rebound in large-cap technology stocks while the Small-Cap 600 (SLY) and Mid-Cap 400 lagged for the third-straight week following a red-hot start to the year. Real estate equities were mostly higher on the week - led once again by the residential REIT sectors - as the broad-based Equity REIT Index (VNQ) gained 0.7% with 13 of 19 property sectors in positive territory while the Mortgage REIT Index (REM) climbed by 0.9%.

Helping to contain the upward pressure on interest rates from the strong week of economic data, commodities prices and inflation expectations steadied after transit through the Suez Canal resumed following a week-long delay from a grounded containership. Seven of the eleven GICS equity sectors finished higher on the week, led to the upside by the Communications (XLC), Technology (XLK), and Consumer Discretionary (XLY) sectors. Homebuilders and the broader Hoya Capital Housing Index were also among the leaders this week, boosted by analyst calls that the Biden administration's proposed infrastructure plan could be particularly beneficial to the housing industry.

Robust levels of homebuying activity have clashed with record-low inventory levels to put substantial upward pressure on home values since the start of the pandemic. Another round of stimulus checks arrived in January and another round is currently being distributed, which has led to double-digit growth rates in personal incomes. Boosted by this surge in incomes, all of the major home price indexes have exhibited a reacceleration in price appreciation over the last ten months, underscored by the 11.2% year-over-year increase in the Case Shiller National Home Price Index and 11.1% on the 20-City Composite in October, which was the strongest rate of price appreciation in nearly 15 years.

Real Estate Economic Data

Below, we recap the most important macroeconomic data points over this past week affecting the residential and commercial real estate marketplace.

This week's gains came amid a busy week of employment data and ahead of the ADP nonfarm payrolls report released on Friday to a closed equity market. The Bureau of Labor Statistics reported that the U.S. economy added 916k jobs in March - well above the estimates of 650k - and revisions to the prior two months added another 156k to the total employment level. Job growth in March was broad-based, with the largest gains seen in leisure and hospitality (+280k), public and private education (+190k), and construction (+110k). The "headline" unemployment rate ticked lower to 6.0% - a rate that wasn't achieved until over five years into the post-GFC recovery.

Strong job growth in recent months may have implications for fiscal policy, potentially weakening the Biden Administration's case for the proposed $2 trillion in additional government spending. The Federal Reserve projections - which assume no further spending measures - call for GDP growth of 6.5% in 2021 and for the unemployment rate to decrease to 4.5% by year-end. As we've discussed since early in the pandemic, the underlying employment outlook was better than the headlines suggested as the vast majority of unemployed individuals classified their status as "temporary layoff" and we have indeed seen more than 16 million of these individuals return to work as businesses in the "COVID-sensitive" sectors have gradually reopened.

Equity REITs

REIT investors are beginning to see early signs that "animal spirits" may be brewing again following a lull in M&A activity dating back to the start of the pandemic. Brookfield Asset Management (BAM) announced this week that it reached an agreement with Brookfield Property Partners (BPY) - and by extension Brookfield Property REIT (BPYU) - to acquire all of the limited partnership units of BPY and shares of BPYU that it doesn't already own. The offer for the diversified REIT represents a 10% increase BAM's previous offer in January - but just a 2% premium to close prior to this week's announcement. The $6.5B deal would be the largest REIT-involved acquisition since Prologis' (PLD) $12.9B acquisition of Liberty Property in 2019.

Cannabis: Innovative Industrial Properties (IIPR) - which has been the best-performing REIT over the past two years - jumped more than 5% on the week after New York legalized recreational marijuana. Medical usage is now legal in 35 states while recreational usage is legal in 15 states. The ongoing federal prohibition - and the resulting limit on access to traditional banking - has forced cultivators and retailers to turn to alternative sources for capital, including cannabis REITs. While President Biden ran on a platform that included Federal legalization, recent actions and comments - including the firing of staffers for past marijuana use - cast doubt on that assumption.

Hotels: Powered by Spring Break demand and the continued vaccine roll-out, TSA Checkpoint data showed that the recovery in domestic travel has picked up meaningfully over the last month following a very slow recovery over the prior ten months. As a percent of 2019-levels of travel, the seven-day moving average climbed above 60% for the first time. Additionally, STR data showed that hotel occupancy climbed to 57.9% for the week ending March 27th, representing more than 83% of levels relative to pre-pandemic levels. There's no shortage of optimism among hotel REITs, which have jumped 20% so far this year despite another rough quarter in Q4.

Malls: Tanger Outlets (SKT) dipped 4.7% on the week after announcing that it raised $130M in equity capital through the sale of 6.9M shares of its common stock at $19.02 apiece through its at-the-market ("ATM") equity offering program. The company expects the net dilutive impact per share to be 18 cents to its FFO and 4 cents to Core FFO. With that revision, based on guidance provided last quarter, SKT's Core FFO is now expected to decline by another 5.7% this year following the 32% plunge in 2020. Elsewhere, Washington Prime (WPG) jumped nearly 20% after announcing that it reached an agreement with noteholders and lenders to extend its forbearance agreement by two weeks to April 14, indicating that there may be some progress in refinancing talks in an effort to avoid bankruptcy.

Single Family Rentals: The U.S. federal government, using the authority of the CDC, extended a national ban on evictions through the end of June. SFR REITs - Invitation Homes (INVH) and American Homes (AMH) - have reported that the eviction moratorium has had only a minor impact on operations, and fundamentals are among the strongest in the REIT sector as SFR REITs reported near-perfect rent collection, record-high occupancy rates, and rent growth eclipsing 5% in their recent reports. Stimulus measures have provided more than $45 billion in direct assistance to renters, but the deployment of these funds has reportedly been slow thus far.

Finally, this week we published Cell Tower REITs: 5G Dominance. Emerging from relative obscurity early last decade, Cell Tower REITs have developed into dominant players of both the telecommunications and real estate sectors through relentless growth. The single largest property sector, three Cell Tower REITs now account for almost a fifth of the total REIT market value and control nearly 75% of wireless communication infrastructure in the U.S. After uncharacteristically lagging early this year, Cell Tower REITs - along with other "essential" property sectors across the technology and housing sectors - have surged over the past three weeks. Cell Tower REITs delivered another stellar year in 2020 with FFO growth of nearly 9% with no signs of slowing.

Mortgage REITs

Mortgage REITs snapped a two-week losing streak as residential and commercial mREITs were higher by 0.3% and 0.2%, respectively. Sachem Capital (SACH) was among the leaders this week after it reported its Q4 earnings results. The small-cap mREIT focused on short-term home construction lending in its home market of Connecticut has been one of the strongest performing mREITs so far this year with gains of over 28% after being one of the best-performers from 2020 as well.

The wave of dividend boosts continued in the mREIT sector this week as well. Invesco Mortgage (IVR) was among the leaders this past week after boosting its dividend last Friday afternoon to $0.09/share, a 12.5% increase from its prior dividend of $0.08, representing a forward yield of 8.8%. Helped by 17 mREIT dividend increases this year, the average residential mREIT is currently paying a forward dividend yield of 8.1% while the average commercial mREIT is yielding 6.8%.

REIT Preferreds & Bonds

The REIT Preferred ETF (PFFR) ended the week higher by 1.0% and is now higher by 3.2% thus far in 2021. After the approval of the previously discussed Brookfield consolidation and related transactions by BPY unitholders, it's expected that Brookfield 6.375% Series A (BPYUP) will be redeemed at its par value of $25 per share plus any accrued and unpaid dividends. Also this week, as previously announced, STAG Industrial 6.875% Series C (STAG.PC) was redeemed. Additionally, Boston Properties 5.25% Series B (BXP.PB) was redeemed as well. The average REIT Preferred trades at a current yield of 6.31% and trades at a slight discount to par value.

Over in the bond markets, industrial REIT Duke Realty (DRE) announced that it refinanced a $1.2 billion revolving credit facility that includes a reduction in borrowing costs if certain sustainability-linked metrics are achieved each year. Empire State Realty (ESRT) announced that it closed on an $850M, four-year revolving credit facility with a similar sustainability-linked pricing mechanism. Elsewhere, Safehold (SAFE) announced that it replaced its existing $600M secured revolving credit facility with a new $1B unsecured revolving credit facility at LIBOR plus 100 basis points.

2021 Performance Check-Up & 2020 Review

Through thirteen weeks of 2021, Equity REITs are higher by 10.1% while Mortgage REITs have gained 11.9%. This compares with the 7.1% advance on the S&P 500 and the 14.9% gain on the S&P Mid-Cap 400. Eighteen of the nineteen REIT sectors are in positive territory for the year, while on the residential side, all eight sectors in the Hoya Capital Housing Index are higher. At 1.68%, the 10-Year Treasury Yield has climbed 76 basis points since the start of the year and is 116 basis points above its all-time closing low of 0.52% last August, but 157 basis points below its 2018-peak of 3.25%.

The FTSE NAREIT All Equity REIT Index ended 2020 with total returns of -5.12%. Despite the rough 2020, REITs have been one of the best-performing asset classes since the start of 2010, producing average annual total returns during this time of 11.1%. Interestingly, 2020 was the first year since 2009 that REITs finished in the bottom four of the ten major asset classes, and despite the pullback, still lag only the Small-Cap, Mid-Cap, and Large-Cap equities over this time. REITs have produced far superior total returns to Bonds (AGG), TIPS (TIP), Commodities (DJP), and International (EFA) stocks.

Economic Calendar In The Week Ahead

Inflation and PMI data highlight the economic calendar in the week ahead with the Services PMI report released on Monday and the Producer Price Index report on Friday. Inflation expectations - along with longer-term Treasury Yields - have rebounded sharply since Election Day on the prospects for additional fiscal stimulus and on improving economic data, but recent inflation reports have yet to show a broad-based uptick in either consumer or producer price levels. We'll also be watching the weekly MBA Mortgage Application data on Wednesday and Jobless Claims data on Thursday.

For an in-depth analysis of all real estate sectors, be sure to check out all of our quarterly reports: Apartments, Homebuilders, Manufactured Housing, Student Housing, Single-Family Rentals, Cell Towers, Casinos, Industrial, Data Center, Malls, Healthcare, Net Lease, Shopping Centers, Hotels, Billboards, Office, Storage, Timber, Prisons, Cannabis, Real Estate Crowdfunding, High-Yield ETFs & CEFs, REIT Preferreds.

Disclosure: Hoya Capital Real Estate advises an Exchange-Traded Fund listed on the NYSE. In addition to any long positions listed below, Hoya Capital is long all components in the Hoya Capital Housing 100 Index. Index definitions and a complete list of holdings are available on our website.

Analyst’s Disclosure: I am/we are long HOMZ, AMT, ARE, AVB, BXMT, DRE, DLR, EFG, EQIX, FB, FR, MAR, MGP, NLY, NHI, NNN, PLD, REG, ROIC, SBRA, SPG, SRC, STOR, STWD, PSA, EXR, AMH, CUBE, ELS, MAA, UDR, SUI, CPT, NVR, EQR, INVH, ESS, PEAK, LEN, DHI, HST, AIV, MDC, ACC, PHM, TPH, MTH, WELL. 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.

Hoya Capital Real Estate ("Hoya Capital") is an SEC-registered investment advisory firm that provides investment management services to ETFs, individuals, and institutions, focusing on portfolio and index management of publicly traded securities in the residential and commercial real estate industries. A complete discussion of important disclosures is available on our website (www.HoyaCapital.com) and on Hoya Capital's Seeking Alpha Profile Page. It is not possible to invest directly in an index. Index performance cited in this commentary does not reflect the performance of any fund or other account managed or serviced by Hoya Capital Real Estate. Nothing on this site nor any published commentary by Hoya Capital is intended to be investment, tax, or legal advice or an offer to buy or sell securities. Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy and should not be considered a complete discussion of all factors and risks. Data quoted represents past performance, which is no guarantee of future results. Investing involves risk. Loss of principal is possible. Investments in companies involved in the real estate and housing industries involve unique risks, as do investments in ETFs, mutual funds, and other securities. Please consult with your investment, tax, or legal adviser regarding your individual circumstances before investing. Hoya Capital, its affiliate, and/or its clients and/or its employees may hold positions in securities or funds discussed on this website and our published commentary. A complete list of holdings is available and updated at www.HoyaCapital.com. REIT Terms Defined: REIT (Real Estate Investment Trust): A company that owns, operates, or finances income-generating real estate. REITs must distribute 90% of taxable income to qualify. REITs are exempt from corporate income taxes, but distributions are generally taxed at ordinary (not qualified) income rates. FFO (Funds From Operations): A standardized measure of REIT operating performance, used in place of Earnings. FFO adds back depreciation to Net Income and adjusts for gains/losses on property sales. AFFO (Adjusted Funds From Operations): A non-standardized measure of recurring/normalized FFO after deducting capital improvement funding and adjusting for “straight line” rents. NOI (Net Operating Income): Typically reported on a “same-store” basis, NOI is a calculation used to analyze the property-level profitability of real estate portfolios. NOI equals all revenue from the property minus property expenses. NAV (Net Asset Value): An estimated market value of a REIT's net assets based on estimated private market valuations of similar assets, assuming immediate liquidity and zero transaction costs.

Comments

[Petermevans]

Yesterday I was at Stanford Mall (near the University, a Simon property) about 2:00 on a Saturday. We couldn’t find a place to park anywhere. I saw many people walking around with Nordstrom shopping bags. Long waiting lines for the restaurants. It looked to me like most people were buying, not just teenagers looking at their cell phones. Big crowds. Monday morning I’m buying more SPG and MAC

[Arimnestos]

Wondering what the best way to short IIPR as soon as weed is decriminalized? Certainly their little niche will go away once the big boys can enter the picture.

[Qorvos]

@Arimnestos well, at nearly 5b mkt cap they ARE a big boy.

As for other 'big boys' like BAT and Altria, since as early as 2019 (altra then invested like 2b in different cannabis company) they already are active. Both in the scene of cannabis and derived products. So competition is already there for quite some time, and so far they appear to be winning.

If you're purely talking REIT competition, then any empty floorspace does just fine. But then again, every time there is new legislation that can tempt competitors into the market, you also get a significant new customer base to compensate. So its probably going to be a win-win, competitor grows and IIPR will just grow a bit.. less.

[Arimnestos]

@Qorvos No they aren't big. I'm talking PLD, for instance, which has the lowest cost of capital in REITdom, not to mention a substantial land bank, and can build faster and cheaper. If they want into the business, IIPR's returns will drop like a rock.

[Cuip99]

In my REIT sector I own O, MAIN, ORC and FREL. I take that as enough to satisfy my needs. Yes, I could do more but then I start pushing risk and a lot of daily management that I do not want to do.

[Arimnestos]

@Cuip99 FYI, MAIN is a BDC, not a REIT, as is ORC, IIRC. And, BDC's generally carry more risk than the average REIT.

[sarge101abn]

So much great information packed into these reports, I really enjoy reading them and also jotting down numerous ticker symbols for further review. I end up adding many of the stocks presented here to my portfolios, stocks I wouldn’t otherwise know about, thank you Hoya Capital.

[Hoya Capital]

@sarge101abn Thanks Sarge, glad you enjoy these reports.

[Iggy_de_la_Varga]

@Hoya Capital Real Estate speaking of pot REIT's, whats your take on the new mREIT AFCG? The CEO had a poor track record at the BDC he founded (FSC) and this new mREIT is structured similarly (externally managed, so incentive to increase assets under management to boost fee income from the high fees generated by originating loans, so one wonders how rigorous their underwriting will be) but in an interesting sector, where loans are issued in the 12%+ yield range, at least until marijuana becomes federally legalized and thus open to the traditional bank/lending sector

[Hoya Capital]

@iggy_de.la.varga Just got onto our radar this past week - haven't had a chance to really take a look yet. But we'll publish our Cannabis REIT report in a few weeks and will include that in the report.

Not too much detail (or an investor presentation or slide deck) on their website. In my book, that's not a good start, but I'll reserve judgment for when I'm able to complete a more thorough review.

[Arimnestos]

@iggy_de.la.varga Seems like a good idea for the short term.

[Hugh Arhue]

Great way to catch up and plan, for Next week and beyond.

[Hoya Capital]

@Hugh Arhue Glad you found it helpful, Hugh.