This is an HTML version of an article that ran in the May 2014 issue of Real Estate Forum. To see the story in its original format, click here.
In January the REIT industry began to get a glimmer that 2014 might be a good year. Certainly, the thinking went, it would have been difficult to be any worse than 2013, when REITs were routed by the S&P 500 Index by a good 30 percentage points or so.
And as it turned out, January 2014 rocked for REIT investors. On a total return basis, the FTSE NAREIT All REITs Index rose 3.38%, the FTSE NAREIT All Equity REITs Index increased by 3.31% and the FTSE NAREIT Mortgage REITs Index was up 5.96%, according to NAREIT figures. Meanwhile, the S&P 500 was down 3.46%.
Could it be that the S&P was merely spooked by the emerging market turmoil characterizing those weeks? Perhaps.
But then… it happened again in February. On a total return basis, the FTSE NAREIT All REITs Index rose 4.69%, the FTSE NAREIT All Equity REITs Index increased 4.67% and the FTSE NAREIT Mortgage REITs Index was up 4.30%. The S&P 500, for its part, rose 4.57%.
By the end of March the trend was clear: the FTSE NAREIT All REITs Index rose 8.57% on a total return basis for the quarter and the FTSE NAREIT All Equity REITs Index was up by 8.52%. The FTSE NAREIT Mortgage REITs Index gained the most at 11.16%. All of these indices bested the S&P 500, which was up 1.81% for the quarter.
For Brad Case, VP of research for the National Association of Real Estate Investment Trusts, it was surely a “told you so” moment. Case and executives from the REIT space watched as investors fled REIT stocks when, in May 2013, the Federal Reserve Bank announced that its quantitative easing policy would be coming to an end.
The established school of thought is that REITs suffer when interest rates rise and other investment options become more attractive—hence the dumping of these securities.
But in reality—and certainly in the current cycle—it isn’t that simple, the REITs argued, and as events played out, they turned out to be correct. The market had unfairly penalized REITs.
As the dust settled, they reevaluated the landscape and came to new conclusions, namely that the S&P 500 was probably overvalued after its rocket ascent in 2013, and fundamentals were strong for real estate.
“It’s not that the market ignores interest rate rises but improvements in the economy are more important,” Case said at the time.
Back to Square One?
And so here we are, one year after the Fed threw the REIT industry into turmoil. In many ways, the industry looks the same; capital raising is still very robust and with full coffers, REITs are both active buyers and sellers of assets.
But it is not exactly the same. As REITs continue their reboot this year, a number of emerging trends are poised to shake things up a bit.
Non-traded REITs are a growing force, with the New York City-based American Realty Capital serving as exhibit A. Eventually these non-traded REITs will be seeking a liquidity event for its endgame, whether it is a public listing—as ARC has done on many occasions—or a sale of its assets.
And while debt and equity markets are wide open to REITs, many have concluded they would be even more generous with a carefully culled portfolio of assets. Hence, the flurry of single-asset REIT spin-offs.
At the same time, the universe of REIT assets is expanding to include everything from cell towers to electronic billboards. The Internal Revenue Service indicated at one point it would carefully scrutinize these transactions. Then, earlier this year it gave a favorable ruling to CBS’ proposal to convert its outdoor advertising subsidiary, CBS Outdoor Americas, into a REIT. Other proposals to turn unorthodox asset classes into REITs are taking heart from the ruling.
Despite these changes—or, rather, in part because of them—the bottom line is that REITs are back in business, following the same upward trajectory that they always do during their extended cycle.
Liquidity End Games
One doesn’t have to be an investor, or even a fan, of ARC to realize that non-traded REITs have made serious inroads in the larger REIT universe. These entities have become serious acquirers and capital raisers, as industry statistics show.
Assets under management for the non-traded REIT industry were estimated to be $77 billion as of the end of 2013, down from $84.9 billion at the close of 2012, according to the Real Estate and Investment Securities Association and Blue Vault Partners.
Estimates indicate that the non-traded REIT industry raised more than $19 billion in new capital during 2013, the highest amount raised in one calendar year and nearly double the amount raised in 2012.
Investors are flocking to non-traded REITs because of their returns, which Blue Vault and REISA quantified in a recent joint study. It found that two-thirds of the full-cycle REITs outperformed the S&P 500 Index and 20 of 27 outperformed Intermediate-Term US Treasury Bonds when compared over matched holding periods, noted Vee Kimbrell, managing partner of Blue Vault, when announcing the study’s results.
“Our study showed that full-cycle non-traded REITs averaged annual returns of 8.27%, outperforming both the S&P 500 Stock Index total return of 6.08%, and the Intermediate-Term Treasury Fund benchmark’s average returns of 6.22% over matched holding periods,” he said.
Ultimately, full-cycle events returned an estimated $16 billion to non-traded REIT equity investors during 2013.
Increasingly these “events” include going public and starting a new cycle in the capital markets. ARC, to again cite the ultimate poster child for non-traded REITs, has taken a number of its funds public, including, recently American Realty Capital Healthcare Trust. It listed on the NASDAQ Global Select Market in April boasting a 141-property portfolio focused on medical office buildings and seniors housing communities, along with hospitals, post-acute care facilities and other assets.
With a new channel to the capital markets thanks to its NASDAQ listing, the REIT is planning on more acquisitions.
Next: New REIT Players