The current downturn began after the REIT market peaked in January 2007 and eventually nose-dived 27% by the end of this past February, with the average annual decline for REITs at 25.2%. But they recovered from that collective freefall a bit, and were at negative 24.1% by the end of March. "The severity of this downturn is worse than the prior two," Case says.
Yielding Results
REITs are required to pay out at least 90% of their taxable income to shareholders. In return, they can deduct the dividends paid from their corporate tax bill. The combination of steady dividend income and potential stock price appreciation are big selling points for REITs, and dividend yields have held steady during the downturn. In fact, yields rose last year as prices fell-the average yield was 5.29% at year-end 2007 versus 4.06% at year-end 2006, and they averaged 5.57% as of the end of the first quarter.
"Dividend yields are pretty secure for the most part," says Tom Bohjalian, a portfolio manager at the REIT investing firm Cohen & Steers. "There are isolated cases every year where one or two companies cut their dividend because they sold a big portfolio and no longer have enough cash flow to sustain a dividend."
Bohjalian believes that commercial real estate fundamentals in the U.S. point to moderate growth rather than a major downturn. For starters, there isn't a major oversupply problem with commercial real estate because soaring building supply costs helped limit new construction in recent years. And if the rash of federal stimulus programs perk up the economy in the second half and beyond, as expected, he says that should create enough jobs to support demand in the office, apartment and hotel sectors, among others.
But the sputtering economy will impact REIT cash flow growth, which Bohjalian expects will be in the 5% to 7% range both this year and next, down from 10% in 2007. He adds that all bets are off if there's a deep recession, but his firm doesn't anticipate one. For now, he sees a number of REITs trading at discounts and sporting safe, attractive yields.
Bohjalian points to a couple of storage companies-Extra Space Storage and Sovran Self Storage-that recently traded at roughly 15% discounts, had stable cash flow projections and had yields of about 6%. On the office side, Bohjalian likes Mack-Cali Realty Corp., which is concentrated in the Northeast, and Liberty Property Trust, which has a strong East Coast presence. Both had recent yields of about 7% and strong balance sheets. He also likes companies with established beachheads in key markets where it's difficult to add new office supply such as New York, Boston, Washington, D.C., and Los Angeles. Among them are Boston Properties, Vornado Realty Trust, SL Green Realty Corp. and Kilory Realty Corp.
Positions Of Strength
Moore from RBC is bullish on retail REITs despite the current turmoil surrounding consumers and retailers alike. "Retail is the most oft-missed sector by real estate investors because they incorrectly associate the fortunes of retailers or consumers with what's happening at the real estate level," he says.
Moore says retailer expansion plans look beyond the current slowdown and that the companies want to be in the best shopping centers, the majority of which are owned by REITs. "Every time we have any kind of pullback, people say it's the end of the retail guys," says Moore. "And every time we pull out of it, they see that earnings are stronger than anticipated. Retailers still have to pay the landlord."