In December MarketWatch took a balanced view on investing in real estate investment trusts. REITs may be "cheap enough to warrant another look," we wrote then.
The pro-REIT camp liked the macro fundamentals underpinning the investment — not to mention their cheap relative valuations — believing that those factors outweighed concerns about rising interest rates, investor disinterest and the Amazon (AMZN) effect that’s been clearing out the traditional shopping malls that anchor many of these funds.
Since then REITs have gotten even cheaper, and are now luring some analysts who’d shied away before.
The Vanguard Real Estate ETF (VNQ) is down about 9% for the year to date, worse than the 2% decline for the S&P 500 (.SPX). Shares of the PowerShares KBW Premium Yield ETF (KBWY), meanwhile, have lost more than 12% so far in 2018.
REITs have been beaten down enough that Rick Daskin, an investor who in December told MarketWatch he was staying away, is now interested. Back then, Daskin, who serves as president of RSD Advisors, and subadvises Cumberland Advisors on MLP strategy, thought interest-rate risk was just too strong to make REITs, which depend on borrowing, attractive.
Now, he said, “relative to bonds and other things it looks to me like they present some opportunity. Retail REITs have gotten absolutely destroyed, and some are at a level where they’re near-distressed. And they may be superior to bonds because you’re scraping up more yield. The risk-reward might be coming more into focus.”
Within the retail sector, Daskin said, he’d concentrate on class “A” malls, those with higher foot traffic than lower-rated properties and with strong tenants.
“I don’t think you want to play at the bottom of the barrel,” he said.
A mall REIT that fits that description and is popular among analysts surveyed by FactSet is Simon Property Group, Inc. (SPG), which has a mean overweight rating and a price target about 19% higher than current trading levels.
Another area he’d consider is health care, which is less sensitive to the economic cycle.
But as with so many considerations surrounding REITs, the specific details seem to trump the logic of the fundamentals.
Sabra Health Care REIT, Inc. (SBRA), down about 7.5% for the year to date, has an overweight rating among FactSet analysts and a target price of $20.60, nearly 20% higher than current trading levels. Sabra has strong geographic diversification across the U.S., and properties in senior living, skilled nursing and specialty hospitals. It also boasts a dividend yield of 10.3%.
Still, in a recent note, Raymond James analysts wrote that Sabra’s “discounted valuation” was “attractive,” but that they were still “staying on the sidelines.”
9 smart ways to invest in REITs
“Skilled nursing facilities continue to face challenging fundamentals (decreasing lengths of stay, pressure on reimbursement rates, increasing regulatory pressures, difficult labor market),” they added. “While the ‘aging of America’ and massive demographic shift will eventually overcome these headwinds, we have yet to see an inflection in skilled nursing occupancies that would warrant a more favorable outlook for the stock.”
In contrast, Michael Underhill, chief investment officer at Pewaukee, Wis.-based Capital Innovations, LLC was bullish on REITs in December. While Underhill still believes most investors could benefit from some exposure to real estate in the form of REITs, he advocates being “surgical” about which to pick.
Underhill likes single-family rental REITS as a housing call. “We’ve got a housing shortage and you don’t have enough product and that’s holding back the buyers,” he said. “The single-family rental space in the mid-market to lower mid-market will be interesting because those types of buyers don’t have a significant amount of wealth put aside to purchase. The consumer will be renting rather than buying out of necessity.” Invitation Homes (INVH), is the leader in the single-family rental space, with about 82,000 homes of the roughly 200,000 held by institutional investors. The stock has a buy rating among FactSet analysts and a target price of $25.86, 14% higher than its Wednesday trading levels.
Outside of housing, Underhill isn’t buying the retail thesis. “We’re not buyers at these levels,” he told MarketWatch. “They could be a value trap. I don’t feel comfortable going into a sector that’s seeing a once-in-a-generation transition. Conversely, health care, that’s not a value trap, that’s growth on sale.”
Still, just as Daskin thought bonds were a better buy over REITs back in December, some analysts echo that idea now.
“In the near term, interest-rate rises may continue the trend of investors transitioning assets from premium income, higher risk products (like REITs) toward safer income-producing assets (bonds). Therefore, we are not adding to our REIT allocations at this time,” Jeremy Bryan, portfolio manager at Gradient Investments, told MarketWatch.
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