The first four months of this year were not favorable for the overall U.S. real estate investment trust (REIT) industry. Uncertainty and restrained trading activity took a toll on returns.
The FTSE/NAREIT All REITs Index registered a total return of 3.5% in the first four months of 2017, lagging the S&P 500’s stellar 7.2%. Specifically, Equity REITs, which comprised a majority of the total REIT market, came up with a weak performance, with the FTSE NAREIT All Equity REITs Index finishing April with a total return of 2.99%.
Admittedly, the concerns surrounding rate hikes and movements of treasury yields made investors skeptical about investing in REIT stocks. This is because REITs are typically dependent on debt for their business. Also, they are often considered as bond substitutes for their high and consistent dividend-paying nature. Apart from these, fundamentals of some of the underlying asset categories provided headwinds and drove away gains.
Particularly, the retail REIT segment felt the heat with dwindling traffic and store closures amid aggressive growth in online sales, which checkered demand for the retail real estate space. Also, an increasing number of deliveries of new units in a number of key markets and elevated concession activity raised concerns over some apartment REIT stocks.
But sidelining the entire industry would not be prudent, as REITs cater to a wide range of real estate assets and each asset category has its own demand-supply dynamics.
In the first four months of 2017, even though the overall returns from the REIT industry fell short of the broader market, a number of asset categories showed fundamental strength and the REITs catering to those asset classes reaped benefits.
Among them are the data center REITs that posted a total return of 18.0% with growth in cloud computing, Internet of Things and big data. Moreover, infrastructure REITs gained 15.7% and Specialty REITs delivered returns of 14.3%, handily outpacing the broader market.
In addition, any rate hike would eventually be backed by economic improvement. And when economic growth gathers steam and inflation rises, prices of real estate generally increase, and rent and occupancy of properties go up.
But not every category of real estate is likely to get an equal boost and not all locations are equally poised to flourish. Therefore, investors need to remain cautiously optimistic and assess the fundamentals of the underlying asset category before making any investment. Further, the capacity of REITs to absorb a rate hike should also be considered. Hence, things like lease durations and pricing power in the market would command attention.
