Global Real Assets
A bi-weekly discussion of the recent commodity, REIT, and real asset markets and what it may mean for investors.
John LaForge, Head of Real Asset Strategy
REIT Values Look Appealing to Start 2017
- Real estate investment trusts (REITs) look cheap versus their underlying real estate holdings.
What it may mean for investors
- We are overweight on Public Real Estate, and feel investors should consider REITs when appropriate.
We suspect that REITs will be one of the better investment areas in 2017. Valuation, in particular, seems to be an investment edge for REITs today. Chart 1 tracks how REITs are being valued in the marketplace versus their underlying real estate holdings (their net asset value, or NAV). Since 1990, REITs have traded at a 2.9 percent median premium to their underlying real estate holdings (dashed horizontal green line). This is the case largely because buying, selling, and managing real estate properties can be tough for investors. REITs offer better liquidity (than individual real estate holdings), top management talent, diversification, and access to additional deal capital.
Today, REITs trade at a 7.6 percent discount to their underlying real estate holdings, which is historically quite cheap. Only in 1991, 2000, and 2008 have REIT values been better, and each of these periods were consumed by recessions and global slowdowns. In other words, REITs are not likely to get much cheaper versus their underlying real estate holdings, unless a global slowdown is imminent, and that is not something that we are expecting.
The REIT discount has happened very quickly. REITs were trading at over a seven percent premium to NAV in August 2016. Because of this premium, and a host of other reasons, we downgraded REITs in September. The trigger that got REITs falling was the quick move up in interest rates. REITs do have a higher-than-average yield versus other major investments, and high-yielders do have a history of suffering during short periods of spiking interest rates. As we begin 2017, the rate spike has subsided, yet the REIT discount remained. We upgraded REITs and Public Real Estate to overweight early last month. Unless a global slowdown or a quick and significant spike in interest rates are imminent, neither of which we are expecting, REITs look attractive today.
There are special risks associated with an investment in real estate, including the possible illiquidity of the underlying properties, credit risk, interest rate fluctuations and the impact of varied economic conditions.
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