Biding time, REIT investors wait for market to rebound

So far, the slump is comparable to '97-'99 slide, but some see a weak 2009 too

Brad case
Brad Case

NEW YORK - Executives at real estate investment trusts are laying low, waiting for the next wave of distressed properties to roll in. But in the meantime, 2000 REIT executives, analysts and investors attended REIT Week 2008.

REIT investors have been on a wild ride in the 13 months that ended Feb. 29, with a peak-to-a trough return for the FTSE-NARET All REIT index of -26.9%, according to data provided by the National Association of Real Estate Investment Trusts, a Washington-based trade group that sponsored REIT Week, held June 4-6 in New York. The average annual return during the period was -25.2%. And no one yet is certain whether this cycle has hit one bottom or a series of troughs, Brad Case, NAREIT's vice president, research and industry information, said in an interview.

As in other parts of the real estate world, REIT investment managers are suffering from a lack of transactions and little or too expensive debt. What's more, the $750 billion commercial mortgage-backed securities market has been reduced to a sputter and is relatively unavailable as a source of refinancing. The root of the problem is that the economy is on a downward trajectory, noted Bryce Blair, chairman and chief executive officer of Washington-based AvalonBay Communities Inc., during a panel discussion on the economy.

Speakers on another panel on credit financing agreed that the CMBS market has been beaten back by a lack of investor confidence.

"That's the reason we have $1.4 billion in cash and $2.6 billion in lines of credit," said Wendy Silverstein, executive vice president, capital markets of Vornado Realty Trust, New York.

"When you have to roll loans, you will have to put in more equity and the price (of the debt) is a moving target."

In this market quality counts, said fellow panelist Tara Innes, managing director, AIG Global Investments, New York.

"We are not highly leveraged," Ms. Innes said. "There will be a lot of dislocation and stress until it (the market) works itself out."

$100 billion overhang of deals but slump not extraordinary

REITs will have to start using their balance sheets strategically to make investments instead of getting a line of credit, Ms. Silverstein noted.

In the floating-rate sector, there is about $100 billion of overhang of deals waiting to be securitized. "There's a lot of unsold product," said Lisa Sarajian, managing director, structured finance, Standard & Poor's Rating Services, who was on the same panel.

Despite the amount of overhang, the current market is on a par with other downturns.

Mr. Case said that this latest slide in the REIT market compares with other REIT market slumps. This includes the 23-month period beginning with the peak of December 1997 and the November 1999 trough that had a return of -26.3% and an average annual return of -14.7%.

The initial three months of the current crisis paralyzed the market, but now it is starting to ease, said David Oakes, executive vice president of finance and chief investment officer of Developers Diversified Realty Corp., a Beachwood, Ohio-based global shopping mall REIT.

"Everyone is starting to come out of the uncertainty and fear of three months ago," Mr. Oakes said in an interview. Large REITs have been staying out of the market.

"They had cash flow and there was extreme uncertainty over what was out there in the markets or what would be the next shoe to drop," he said.

Some economists - including Richard Berner, managing director, Morgan Stanley (MS), New York - who spoke on a panel on the state of the economy, think this year is a prelude to an even greater downturn next year. He argued that the recession has not hit the global economy full force.

Kenneth Rosen, professor, University of California at Berkeley, attributed the downturn in the REIT market to an overpricing in 2006 and early 2007.

Institutions expected to get off the sidelines

Even so, NAREIT executives predict that institutional investors will gravitate toward REITs as an inflation hedge. There have been a number of recent investments in international REITs, noted Meredith Despins, NAREIT's vice president, investment affairs and investor education, in an interview.

The Ohio School Employees Retirement System, Columbus, hired global REIT managers Invesco (IVZ) Real Estate and ING Clarion Real Estate to run up to $100 million each.

"We're continuing to see defined benefit plans with unfilled target allocations to real estate," Ms. Despins said.

"Institutions have to continue to invest," Mr. Oakes said. "Institutions can't mark time, and I think transactions will start to increase in the second half of 2008."

Investors will commit capital to global REITs as they move to allocate unspent real estate allocations, Ms. Despins said. A few pension funds are acknowledging the role of REITs in their real estate portfolios by using a blended benchmark that includes both the FTSE NAREIT and the NCREIF Property indexes.

Contact Arleen Jacobius at