MIAMI— Every time he thinks it's hard to imagine earnings multiples increasing based on fundamentals, some structural shift happens to drive those multiples ever higher. So says Virtus Realty Capital's Terrell Gates.

GlobeSt.com caught up with Gates to discuss this, as well as the formation of new REITs in part two of this exclusive interview. You can still read part one, “Is it Time to Reduce REIT Holdings."

GlobeSt.com: In 2007 and again in 2011, people were asking if the REIT run is over. That question is emerging again. Has the REIT run ever really ended? How has it evolved?

Gates: This is tough. Every time I think it's hard to imagine earnings multiples increasing based on fundamentals, some structural shift happens to drive those multiples ever higher. The most recent shift was a move to a long-term managed economy, which ultimately resulted in a structural shift of interest rates.  

When interest rates came down precipitously on a secular rather than a cyclical basis, that paved the way for increased valuations of REITs and commercial real estate in general.  In other words, because yields are so low in all other asset classes, investors were effectively driven into real estate, with REITs often being the proxy for that as they searched for higher yields or yields that were perhaps a bit more inflation protected than traditional fixed income instruments.

In response to the question, it's hard to imagine REIT relative valuations for the entire asset class pushing much beyond where they've reached. I hope I'm wrong.   

GlobeSt.com: Are you seeing a lot of new REITs forming now or are they declining?

Gates: I certainly see a lot of folks in the private space either trying to form a new REIT, trying to execute an investment strategy to ultimately result in going public as a REIT or a general roll-up strategy to exit to the REITs or go public in order to capture the portfolio premiums being paid and/or the private to public arbitrage.  

For example, the behemoth American Realty Capital, has been very successful raising capital from individual investors via broker/dealers and RIAs touting the private to public arbitrage and the ensuing liquidity. They have been very successful with that strategy thus far. They have been excellent at raising capital, and in this very robust capital market environment, they have been excellent at achieving that private to public arbitrage in their first REIT and probably another one coming.  

However, I'm concerned that their business model of looking toward the public markets as the only viable exit is only viable when there's a healthy capital market environment and yields are low in other risk assets. If either of these change, it could be disastrous.