Slowing growth in these three stocks could cause a brutal sell-off that drops prices by 15% to 20% over the next six months. With recent total returns for this sector ranging from 30% to 50% on solid growth, now is the time to take profits.
Since the stock market correction that occurred in the early fall of 2015, REITs have been very good to investors. Over the 10 month stretch, REITs represented by the Vanguard REIT Index Fund (NYSE:VNQ) have gained close to 20% including dividends. In contrast, the overall market, using the SPDR S&P 500 ETF Trust (NYSE:SPY) as a benchmark, has gained just 7%. While I expect REITs to continue to outperform the overall market, it’s time to take some profits in the overheated residential REIT subsector.
Since the housing market crash, many Americans have changed how they view their housing needs. Home ownership is no longer a driving goal for a larger number of people. As a result, new home construction since the housing crisis has remained at well below historical levels. With more and more people renting instead of buying, apartment builders, owners, and operators have been in a strong bull market. The residential, apartment owning REITs have been able to build apartment complexes with more amenities and higher rents, fill those new apartments quickly and increase the rental rates across their property portfolios. The result has been growing revenues and FFO for the apartment REITs. Three-year total returns from the larger companies in the group have ranged from low 30% range to over 50%.
However, in the hotter rental markets the signs of apartment over-building are starting to appear. A recent Wall Street Journal article noted that national apartment vacancy rates had increased for three consecutive quarters and in the hottest markets, rental rate growth is slowing. Looking forward, we can expect to see flat to slower revenue growth profiles from the apartment REITs.
While slower growth may not seem like a big deal, there is a tendency for Wall Street money to jump out of formerly hot sectors when they start to see any sort of slowing. It happened to the hotel REITs last year. The hotels went from mid-teens revenue per room growth to high single digits, and the hotel REIT share prices as a group declined by over 30%.
