U.S. Real Estate Securities - November 2011
Cohen & Steers
December 22, 2011
We would like to share with you our review and outlook for the U.S. real estate securities market as of November 30, 2011. The FTSE NAREIT Equity REIT Index had a total return of –3.8% for the month, compared with a –0.2% return for the S&P 500 Index. Year to date, the indexes had total returns of +3.5% and +1.1%, respectively.
U.S. REITs had a negative total return in November after posting a strong gain in October. Macro uncertainty, primarily regarding how Europe would handle its debt crisis, drove market volatility that had a bias to the downside. But REITs and other stocks surged at the end of the month—bringing year-to-date returns back to positive—when global monetary authorities provided much needed liquidity to European banks. Also fueling the late rally were better-than-expected U.S. economic data and China’s decision to lower its reserve requirement ratio for the first time in three years.
The third-quarter earnings season for real estate companies wrapped up and generally exceeded expectations. Guidance for 2012 was modestly lowered, which was more a reflection of global economic uncertainty than a change in real estate fundamentals. REITs continued to demonstrate good access to capital at attractive rates, with a number of bond deals in the month, including an $800 million offering from office REIT Boston Properties. The company plans to use the proceeds to pay down a line of credit and position itself for external growth opportunities.
Apartments struggled, self storage advanced
Nearly all property types fell back in the month. Apartments (with a total return of –5.6% within the index) reacted negatively to a potential slowdown in demand when a leading company reported a year-over-year drop in on-site inquiries; however, we believe this reflects an increase in Internet-based inquiries. Shopping centers (–5.7%) were hindered by slow income growth and concerns about post-holiday store closings, despite the record sales recorded on Black Friday weekend.
The industrial sector’s (–5.7%) underperformance reflected a decline in ProLogis, its largest constituent. The U.S.-based company owns buildings and land inventories in Europe. Regional malls (–2.2%) held up relatively well, as the sector’s general concentration in higher-quality malls should insulate it from store closings. The self storage group (+2.2%) advanced. Fundamentals for large, public storage companies have been enhanced by Internet marketing strategies that have taken market share from smaller, private competitors. These companies have also shown an ability to raise rents gradually on existing tenants with occupancies at peak levels.
Europe appears headed for recession, which would have at least some negative effect on the U.S. economy. However, that is a scenario we have incorporated into our models, and we continue to expect slow but steady domestic growth with gradually improving fundamentals for U.S. commercial real estate. Our estimates of net asset value are largely conservative. While transactional information has been relatively light, it has provided confirmation to our numbers. We believe acquisition activity could pick up as 2012 progresses, especially as REITs’ ability to raise capital remains in force. Bond offerings and unsecured term loans (which have become more available to REITs) provide access to funding, and with REITs trading at a modest premium to NAV, equity offerings could be an attractive source as well.
We continue to favor apartment companies and high-quality regional mall owners. In the office sector, our focus is on central business district offices; at some point, however, valuation spreads between high-quality office REITs and their suburban counterparts may become compelling enough to lead us to add to the latter. On the margin, we have shifted in favor of companies that own apartment and office properties in Western cities, where employment trends are relatively strong in services and technology-driven industries.
(c) Cohen & Steers