The 2019 Economy And What It Means For REITs

Before I talk about the impact of the U.S. economy, let me give you our view of where we think the economy will be next year.

First, we do believe that economic growth will decelerate from about 3 percent this year to still what is a healthy level next year, which will be about 2.6 percent.

That, coupled with the fact that we believe we’ll still be an environment where we have a healthy employment and wage growth, and that will act as a tailwind to the consumer, which is a major driver of the U.S. economy.

And then finally, we believe that interest rates or the change in interest rates will be largely dependent on how healthy the U.S. economy is and where inflation ends up being.

If I take that as our top down view, I think there's really three themes I'd like to talk about with respect to how that will play out for real estate. Number one, real state fundamentals we expect to be very similar to 2018.

What does that mean—it means that supply and demand will be largely in balance and that landlords will still have some level of pricing power. That will then translate into both earnings and dividend growth that will be in the mid-single digits and that is still a healthy level considering where we are in the economic and real estate cycle.

And then finally, we do believe that real estate asset values should remain relatively stable even in an environment where we think interest rates are going up. And that's because we believe that growth will be an offsetting factor.

So that scenario plays out as I've described it for both the economy and for real estate. Then we believe it's reasonable to expect that REITs can deliver both an absolute and relative return profile that's attractive to investors. Especially because REITs look inexpensive relative to private real estate and look cheap when comparing them against the broader equity markets when then we look at earnings multiples.

REITs And The Trade War

While an all-out trade war would certainly be bad from most asset classes, we do think that REITs would fare better and there're a couple of reasons behind that.

First and foremost, REITs derive the majority of their revenues from properties that they own here in the United States. Secondly, when we compare REITs versus the S&P 500, REITs rank as the third lowest exposure to international markets out of all the sectors within the S&P 500.

Strongest Sectors For 2019

Going into 2019 there are two key themes that we're going to invest upon. The first is all forms of rental housing and there are two major drivers behind that. Number one, we think we're going to be in a higher interest rate environment. So that will slow the single family for sale market, while at the same time we still have strong employment growth and we're experiencing the tailwinds of demographics. That should lead to outsized demand for rental housing like traditional apartments, single family for rent or manufactured and senior housing.

The second area that we're excited about is secular growth stories and we think data centers and towers fit well within that theme. And that's largely because the proliferation of data, the growth in data will ultimately drive demand for these property sectors.

Are REITs Worth Owning Today?

We always believe that REITs should play a part in an investor’s portfolio because of their history of strong returns and the diversification benefits that they provide because of their low correlations with other asset classes.

Thomas Bohjalian is head of U.S. real estate at Cohen & Steers.