Real estate has been a can’t miss asset class… And yet there are still pockets of this industry that are under-valued.
95% of all U.S. REITs (real estate investment trusts) are now up on the year. These are income-producing real estate companies that are required to distribute 90% of their taxable income back to investors.
But it’s not just commercial real estate that’s booming… The Case-Shiller U.S. National Home Price Index is now rising at the fastest pace since the period leading to the real estate bubble of 2008.
So, are we in for another bubble?
The simple answer is “no” as the dynamics between then and now are different. Back then, for instance, speculation contributed to the financial collapse, while in this case, it’s in response to coming out of a financial collapse.
In fact, there’s still plenty to be bullish about, even with the Dow Jones REIT Index up almost 40% since the election.
First, there’s the inflationary angle… Where holding cash or bonds makes less and less sense by the day.
Then, there’s the historically low lending rates, which gives homeowners and real estate investors the opportunity to acquire or refinance property at very favorable terms.
It makes sense that REITs are having a good run. But not all REITs are created equal. And while some are wildly overvalued right now, others present great entry points…
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Seasonality Has Created a Mirage
In stark contrast to the stock market’s meteoric rise, real estate has been one of the last sectors to catch up after lagging behind in 2020. Lockdowns, job loss, and the shift towards a remote economy made some real estate subsectors like retail and office REITs an investment pariah.
But, the explosion from all that pent-up demand and reopening of the economy has led to a big uptick in fourth quarter sales. And residential and retail REITs benefited the most.
The investment case has been straightforward… The country’s reopening is bringing people back into brick-and-mortar store locations… Resulting in retail REITs outperforming every other real estate subsector.
You can see how retail has stacked up this year compared to the rest of the real estate market…
But what’s not apparent is that fourth quarter sales numbers in real estate are highly seasonal. And, those results may have created more enthusiasm than they should have… Aside from the crash in 2001 and 2008, fourth quarter sales have all seen significant volume increases over the last 20 years, just like last year.
And like any market outlier, the fourth quarter numbers captured the media’s imagination… According to Real Clear Analytics, national apartment sales rose 140% from Q3 to Q4 in 2020, with prices rising 14%. In real estate terms – that’s significant.
But, it may have attracted too much capital into REITs that don’t deserve it. Residential and retail REITs are now overbought, while other sectors are underbought.
In many large cities, the first quarter of 2020 already saw residential and retail markets cool off considerably.
Since the first quarter is a seasonally weak period, this is a natural occurrence. But, what’s even more important is that sales volume is still below pre-pandemic levels, specifically in retail.
Yet many of the REITs that operate in these cities are top performers, and retail is the best performing REIT category.
For example, the numbers in Philadelphia and New York City don’t justify the performance. Independence Realty Trust (IRT), operating in Philadelphia, is up 38% year-to-date (YTD). Another REIT, SL Green (SLG), is also up 38% YTD and exclusively focuses on owning and operating office space in New York City.
The Better Real Estate Play
Let’s take a look at Tanger Factory Outlet Centers (SKT). Tanger is a REIT that operates open-air shopping centers, like malls and outlet stores.
JP Morgan analysts just issued a sell rating on SKT recently, citing…
Pre-COVID-19, SKT was already facing significant operational headwinds from known bankruptcies… Our take is that COVID-19 headwinds are likely to accelerate tenant fallout by way of rent reductions and occupancy loss compared to other property types.
Meaning, SKT had problems before the pandemic that haven’t been solved, yet it’s up 107% YTD.
That just shows how unbelievable this market is… Bear in mind, the long-term trend in online retailers taking market share from brick-and-mortar retail is still strong.
Additionally, the chart below shows the clear dislocation from present-day fundamentals and performance of REIT sectors…
The sectors stacked on the bottom have the best trend in NOI (net operating income), And maybe more importantly… A less risky trend… Meaning lease and rental income was not affected by the pandemic.
And sectors like industrial and data center REITs all had unbroken trends in NOI, yet the retail and residential sub-categories are top performers.
In addition, these sectors all have big growth prospects.
For instance, there will be an uptick from infrastructure spending and data centers have strong global demand, so REITs like Equinix (EQIX) and CoreSite Realty Corporation (COR) should benefit.
Colony Capital (CLNY) is a perfect example of how industry insiders feel about the future of real estate. Colony is in the middle of transitioning away from a diversified commercial real estate manager to become a pure-play digital infrastructure REIT called DigitalBridge. The market has rewarded this switch with a 70% YTD return so far.
This is an opportunity to restack your real estate portfolio in favor of a digital shift… Because as we’ve seen this year, sectors that don’t have the fundamentals to back their performance fall out of favor quickly, giving way for those with earnings in the here and now.
Regards,
Eric Shamilov
Contributing Editor, Market Minute
Eoin’s Insights
Happy Friday Market Minute readers. Here’s another installment of Eoin’s Insights – my weekly series where I discuss what’s going on in the markets.
Today, I’ll be talking about the big news in inflation, the rally in bond prices, and oil marching higher. Just click below to watch.
Reader Mailbag
In today’s mailbag, Jeff Clark Alliance member Donald compliments Jeff on his unpopular opinion about bitcoin…
Jeff, you made a great call on bitcoin about 2-3 weeks ago that it would hit $30K before it sees $100K. You hit it right. I wish I had listened a bit more.
– Donald
And, Jeff Clark Trader subscriber William and Lifetime member Mark comment on Jeff’s insights and educational approach to his Three Truths for All Traders…
I love the market insight from Jeff Clark’s group here. These notes are pure gold. Now I just need to get up to speed on commodities.
– William
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– Mark
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