What will happen to REITs?

Question

Hello all,

I am curious as a real estate investor, what you guys are seeing in the market and how it will affect REITs. I know this is a "own and operate" forum mainly, so if it's not an appropriate topic, feel free to close it.

My question mainly is obviously right now we are facing two issues

1) Commercial properties are shut down, both retail and office (except for the lucky ones that own NNN pharamcy or groceries). Other than Cheescake factory, do you think the large (or smaller) commercial tenants will keep paying their rents or just say f*** it? Do you think the PPP program will help?

2) Rental property is obviously fully occupied since people are staying at home. But now there is talk of "rent strikes" (thank you socialist AOC idiot - sorry about the politics but had to get that out there). Evictions are paused. Apartment REITS and mREITs that hold residential MBS can get cash flow squeezed quickly and default on their own loans?

Obviously the situation is pretty dire, and now all of a sudden one of the safest asset classes is looking the scariest. REITs are down 70-80% and just tanked again Friday. I hope it recovers and have some personal opinions on lockdowns that I won't share here.

What do you guys think?

Joseph Cacciapaglia · Answer

I've worked for 2 publicly traded REITs, and also have been an investor on and off over the years. I sold 100% of my REITs (and stocks in general) in early January. I just recently started buying a little bit, just based on dividend yields. I don't expect prices do come back too quickly. Several REITs were just recently getting back to their 2007 levels. Of course, they've paid out a lot in dividends during that time, so it's not really fair to look just at their price levels.

1. I think that the office and retail REITs that have the best tenants will do OK, but the ones that own a lot of suburban office and retail strips will probably get crushed. There are plenty of big companies that will continue to pay their rent, but I think a lot of the smaller tenants won't be able to. I'm focusing on office REITs that have the very best tenants and great dividends at the moment.

2. I don't really follow apartment or mREITs anymore. I can't imagine a world where we have long term nonpayment of rents that's not somehow backstopped by the government. So I would expect the apartments to do alright after the initial dip. As for the mortgage side, I remember the horrors of investing in Annaly in the 2008+- era. I don't want to get back into that again. I got sucked in by the 18%+ dividend yield but basically broke even over a mid term hold. I much prefer to invest in companies where I can actually look at what properties are in their portfolios, than those that own thousands of mortgages that I can't do any due diligence on.

I don't commit much capital to stocks, and find it more of a fun hobby. My personal investments have always been mostly in real estate, where I can actually affect the performance of my properties. Although I'm dipping my toe back into REITs, I'll be redeploying most of my funds into additional real estate investments.

Max Soukhov · Answer

@Amit M. SPG actually is trading at high BV multiple precisely because they own a lot of malls that are high end, with restaurants and high end retail (the kind of stuff people don't buy online) that have done well for years despite the Amazon effect. I do not believe that coronavirus will change consumer behavior. I am not a huge fan of mall shopping but I would die to go to one right now ...

Office buildings will be ok. I don't know about you guys but working from home for last 3 weeks I WANT to go into an office soon : )

Since every single REIT dropped in price (other than cell phone antenna holders, data centers and industrial) you kind of have your pick amongst which ones will recover the most.

Steve Zhao · Answer

Great comment, Joseph. I totally agree with you.

Max, after done some research myself, my two cents are: basically it all depends on the portfolio holdings for REITs. REITs with big position in CMBS or rely on CMBS for funding have big trouble. REITs with big position in hospitality assets but without enough cash reserves or credit lines would suffer more. REITs with MBS positions might hurt as well when many mortgages forbearance and delay programs offered. After all, the length of this halt of economy and how success of virus mitigation efforts will decide how bad those REITs hurt.

Amit M. · Answer

@Max Soukhov thanks for your input. Interesting, as I’d think SPG would be very vulnerable as well, as I think covid will help seal the fate of more malls. Mall owners will need to invest a lot of capital to repurpose malls successfully as life style brands, etc. I could see REIT’s with class C strip malls also being in trouble, but what about REIT’s that own class B and up office building, medical bldgs, NNN corp brands (like Walmart, Costco, Walgreens, etc.)? I didn’t those REITs also drop a lot in price? And I’d think there is a significant disparity between their stock value and the value of the underlying assets. Any thoughts on that?

Max Soukhov · Answer

The relationship seems to really vary based on the quality. It's quite interesting to see something like SPG (Simon Malls) trades at 18x book value normally (now down to 5x) vs something like AHT (a hospitality reit) is trading at 0.28x (normally trades at 1x). Part of the reason is that SPG is expected to continue growing its book value and income (thus dividends) whereas AHT is questionable as to whether it can actually survive. I own both FYI.

I agree completely (although we may both be wrong) that we are not going to see a huge decrease in property values, primarily because they were not overvalued to start with. In that case, I foresee most real state REITs returning to their BV multiple over the next year or two. To be safe, I don't allocate more than 1% of my portfolio to any REIT. That is one thing I do like about them vs physical properties is that you can really spread risk around geographically etc. With my couple of physical properties, they are very affected by local factors (including the current problem of the property manager disappearing for the last few months and now tenants being 3 mo behind : /

Amit M. · Answer

Hey guys, while I’m not a REIT investor (I’m active with physical properties), I’ve always wondered about the relationship between REIT pricing (basically a market stock) and the values of the underlying properties. Because from a layman’s POV REIT seem like a good buy now (especially incremental purchases.) We know REIT’s are down an insane amount 50-70%. But if you’re looking to buy a class B+ NNN bldg, it’s not exactly down now...and even when their prices soften this year due to the virus led recession, I doubt hard properties in good locations are going to drop anywhere close to 50-70%. So don’t REIT now present a good value, as their underlying assets are priced much higher? (Of course need to compare apples to apples in analyzing REITs vs physical buildings.)

Steve Zhao · Answer

Agreed. There are buying opportunities in Public REITs, especially those with physical assets but market value dropped a lot. DO you mind share which REITs are you looking at? thanks.

Joseph Cacciapaglia · Answer

I understand the appeal of REITs for some people. I'm the type of investor that when I own a stock, I read every report, listen to every conference call, and research the properties and tenants in their portfolio, so for me they don't feel particularly passive (Cramer's old "Buy and Homework"). It's helped me do well with them, but I don't particularly enjoy it. Although I have more control over physical real estate, I don't find it actually takes more work. I don't do any of the rehab work myself, and I don't typically self manage. The only real "work" I do is viewing properties before purchase, and then everything else happens from my recliner and feels pretty similar to the work I do when researching REITs.

Hopefully by the time I don't even want to do the recliner work, I'll have enough capital to just stick to the old SPY/BND 60/40 portfolio and not worry about it. Anything less diversified, and I know I couldn't stand not keeping up with the research.

Max Soukhov · Answer

Thank you for that. I tend to agree. Right now from what I have seen mREITS have lost about 50-60% book value. It's unlikely they will recover because many sold off both agency and non agency MBS. I have a few positions on oversold mREITs but looking to sell when they recover to about 40-45% of pre-crash value which would be the equivalent of their previous multiple of BV they were trading at precrash, based on my estimate of current BV decreases (both published and unpublished).

After that I'm done with mREITS until I can figure out what will happen long term. On the other hand, I plan to stay long physical real estate REITS (including some hospitality) because to me their book value has not dropped (they haven't been selling property or getting foreclosed). Yes they are in trouble but their loan holders are not going to want to reposes a hotel, strip center or anythign like that right now, so I am sure it will get restructured. So i'm looking to hold physical asset REITs for a very long time and believe they will recover to pre-crash value over time. Some might disagree pointing out to REITs that never recovered pre 2008 values, but in this case their BV were inflated by high property prices. I don't believe that was the case pre-crash, and property prices were reasonable across the US, correctly priced based on NOI and regional cap rates.

To me this is equivalent at buying a property at a discount because the owner has a short term cash need and needs to liquidate. As the popular saying goes, you make money when you BUY, not when you sell!

Good luck to all active (direct) and lazy (indirect like me) RE investors!

What will happen to REITs?

Most Popular Reply